You need help with your investments. But how do you find the right advisor for your needs and goals?
-Where do you start?
-Which advisor is right for you?
-How do you know you are asking the right questions?
Selecting an investment advisor can be a daunting task. Answering the following questions will improve your chances of success.
# 1: What do I want to accomplish?
The most important question investors can ask is one they ask themselves. It is essential to know what you want to accomplish. As Steven Covey said, “put first things first.”
-Do I want to manage my own investments?
-Do I want advice on how to manage my investments?
-Or, do I want to hire a skilled manager to direct my investments for me?
These are different questions, requiring clear but distinctive answers. For example, if an investor determines she would like advice on how to manage her investments, then she needs to be prepared to take some responsibility for her investment’s performance. That is because advice is just an opinion or recommendation about what should be done. Ownership for her investment’s performance still rests squarely on her shoulders.
On the other hand, if an investor hires a portfolio manager to manage her investments, then by definition that manager is taking ownership and responsibility for the performance of that account.
Once investors are clear on what they want, what questions should they ask a potential advisor?
# 2: How do you get paid?
This is the most important question an investor can ask a potential advisor. Why is this question so important? Because aligning compensation with the investor’s goals, growing his account, is the most powerful way to ensure his goals are realized.
Advisors and financial planners are compensated in many different ways, but the majority of advisors either charge commissions or fees, or both.
Commissions or sales charges come in several forms. First, investors pay a commission when they buy or sell a stock, bond, or Exchange Traded Fund (ETF). Investors may also pay a commission when an advisor sells them a mutual fund. These charges are often called sales loads or sales fees. Commissions tend to work best when an investor knows exactly what he or she wants, or if that investor plans to make very few transactions.
The problem with commissions or sales loads is that the investor pays the advisor up front. Imagine if realtors were paid up front to sell a house. What incentive would the realtor have to ensure the house actually sells? Additionally, commissions can often drive a product sale, which may not meet the investor’s goals.
There are two types of fees. First there are flat or hourly fees, similar to how an attorney or CPA bills his or her clients. With hourly fees it is important to define up front which services will be performed, and to receive an estimate of the total cost.
The second type of fee is based on assets under management. This fee is usually between one and three percent of the account balance per year. This compensation method works best when an investor hires an advisor to manage his or her portfolio. When the compensation method is a fee, based on assets under management, the advisor can only get a raise if he or she grows the investor’s account.
# 3: How will you invest my money?
It is critical that the advisor has a clear plan for investing the client’s money.
-How will the advisor determine which investments are right for the client?
-Is the plan customizable or one size fits all?
-Will the plan change with the client’s changing goals?
-How would the investments change in a deteriorating economic environment?
The answers to these questions should be clear and intelligent. Ask for clarification about why the advisor’s recommendations fit your goals.
If the prospective advisor is recommending mutual funds, ask why he or she is not using index funds. Because according to Morningstar, the mutual fund rating company, 90% of all mutual funds and annuities fail to outperform the S&P-500 index.
# 4: Do you have an exit strategy?
This is where most advisors fail. Nothing goes up forever. Therefore, it is imperative to know when to take your chips off the table.
Warren Buffett once said that there are only two rules to investing. Rule #1: Don’t lose money. Rule #2: Never forget Rule #1.
POP QUIZ: If your portfolio loses 25% of its value this year, what return would you need next year to break even?
Investment Year #1
Starting Value = $100,000 / Return = -25% / Ending Value = ?
Investment Year #2
Starting Value = $75,000 / Return = ? / Ending Value = $100,000
Did you get the correct answer? If you lose 25% of your portfolio, it takes a 33.3% return, just to break even! If you lose 50% of your money you need a 100% return, just to break even! That is why it is critical not to lose money.
The main reason so many investors lost money in the last down market is that they, or their advisor, did not have an exit strategy. An advisor needs to have a predefined plan for what he or she will do if an investment loses money. Remember, there is no reason to be emotionally attached to any investment. Investments are designed for one thing and one thing only: to make money.
# 5: What is your track record?
This is where you find out if an advisor is driven by results or commissions. When investors hire an advisor for recommendations, or to manage their account, they need to make sure that the advisor has a track record of success.
-How have the advisor’s client accounts performed in down markets?
-How have the advisor’s client accounts performed in up markets?
-How does the advisor’s performance compare to a benchmark, like the S&P-500 index, in up and down years?
This is where you want to ask for numbers to back up the “sales pitch”, and it should not take days to get them. If the advisor sidesteps this question or downplays performance, do not walk away, run!
Making sure the advisor has a history of success is critical. After all, if you are not paying to receive results, what are you paying for?
Well formulated questions are the tools used to dissect any problem. Take time to ask tough questions of yourself and potential advisors. Key questions to ask are:
1. What do I want to accomplish? Create a solid foundation by defining your goals.
2. How do you get paid? Make sure compensation is aligned with your goals.
3. How will you invest my money? Ask tough questions. Expect intelligent answers.
4. Do you have an exit strategy? Make sure the advisor has a predefined plan to prevent major losses in your account.
5. What is your track record? If you are not paying for results, what are you paying for?
These questions should provide an investor with an excellent base for hiring an advisor. Once you find the right advisor, you move beyond solving a problem, you create results.
For more information visit taliskergroup.com.