People never question your price; they question your value. It follows then that people who believe that investment management fees are too high, must be questioning value.
The critics of the industry argue that many advisers are merely salespeople with a technique and a story. That could be true, but it is seriously incomplete.
If you are a client, what do you value in a financial adviser? Competence, integrity, availability, communication, awareness, and concern at least. How about help with the decision? Closing if you want to call it that. There are good many people who have some money now that they would not have had if no one “sold” them the product.
Critics can peck away at what people should get and for how much, but that tells little about reality. Investment cost is not the only variable. Find the answer to the question, “Why do financial plans not work out to the client’s expectations?” and then you will have something.
Begin with the basics.
The money a client will have in the future is a product of capital (savings), after tax yield, withdrawals, and time. The adviser influences yield and the client does the rest. Notice, deposits, withdrawals and time all matter more than yield. You could check.
Realistically, the adviser who addresses the client’s savings, withdrawals and time will add the most value.
Unreasonable expectations and lack of discipline are quickly punished. Clients should possess at least an awareness of compound interest, tax, and time and they should be committed to invest enough savings to get what they want, when they want it and know how the pieces fit together.
When you create your goal, the arithmetic is:
- Decide on a time to accumulate. Usually to retirement.
- Decide on an ending capital balance. What you need for spending.
- Decide on some long term yield that you have a reasonable expectation of achieving.
- Solve for required monthly or annual savings.
The ending balance, savings, yield and time are all connected. If you know three of them you can solve for the other.
So far it is just “stuff.” No adviser value really. You could do this calculation on line or with a spreadsheet. Let’s assume that the fees to use an adviser are 2% over some standard. ( ETF or the like.) What do you get for that and what is it worth?
First notice that your adviser only gets about .8% of the 2% extra. The rest goes to investment managers, supervisory entities that regulate the advisers, and sales taxes.
Do investment managers add value? Maybe. Certainly, some do. The question is only do they add more than their cost? Investors who think this fee is too high tend not to keep track of the costs they incur without managers. Even if they get the same result they pay transaction costs, reporting costs, research costs, tax compliance costs and spend a lot of time.
Managers generally do better than individuals. You cannot seriously believe that someone with no training and little experience can compete effectively with someone with education, access, a network and years of experience. Would you hire your neighbor, the high school teacher, to do it for you? Would they hire you?
It is hard to avoid sales tax and supervision so let’s ask, “Are advisers worth their money?
Until you know what they do, you cannot answer that. Critics do not mention this side.
Advisers do these things:
- Help you calculate your reasonable needs
- Provide a person who can summarize your holdings
- Attach the holdings to goals to assess achievement
- Network with many investment managers who have different styles, strengths and ingenuity
- Attach your tax position to specific tax oriented investments.
- Design a mix to meet your yield assumption
- Report outcomes periodically. (Your schedule.)
- Review your circumstances and readjust the goals as things change.
You could likely do all of this too. Let’s suppose you actually do it and the time it takes has no value to you.
Advisers do other things that you cannot do for yourself:
- Help you stay disciplined. Nagging about the deposits generally means they get deposited.
- Prevent financial self immolation. “When you put the money in, it was for retirement. Now you want it for a new boat. You can have the money by the end of next week, but you need to tell me, probably in writing so I can put it in your file, that the boat is more important than retirement.”
- Prevent anxiety and depression. “Yes the market is down but as you know over long periods the market behaves well enough for you to reach your goals. Should we talk more frequently or would you like more information on how the long term works?”
- Prevent unreasonable expectations. There are not a hundred passive investors in the world who can make 20% annually for 30 years. Of those, 90 will be just lucky.
- Prevent impulse investments. Every successful investor, including Warren Buffet, has someone who sometimes says, “Have you lost your mind?” Taxi drivers, brothers-in-law and barbers do not have special insight into once in a lifetime deals.
It is not hard to say these services are worth nothing and that is especially easy if you ignore them. But, these are the ones that add value.
We know that people who use advisers have more money. It is not necessarily true that the extra money results from the adviser adding huge value. Mostly is is because the adviser and their process prevented the investor from self sabotaging the plan.
Advisers are like prescription drugs. If you use them there may be side effects. In this case, fees and charges. But doing nothing has side effects too. Like dying in the case of drugs. Like not enough money in the case of advisers.
Paying nothing is not a cost free choice and honest critics should recognize that.
Contact: firstname.lastname@example.org | Follow Twitter @DonShaughnessy
Don Shaughnessy is a retired partner in an international public accounting firm and is presently with The Protectors Group, a large personal insurance, employee benefits and investment agency in Peterborough Ontario.