The 10 Habits of a Good Financial Advisor
As of Sept. 30, 2010, roughly 11,000 investment advisors registered with the Securities and Exchange Commission managed more than $38 trillion in assets for some 14 million clients.
That's a lot of fiscal power in the hands of a precious few, which makes choosing an advisor -- presuming you need one -- one of the most important decisions you can make.
Where to start? Seek what Jim Pasztor, chair of the graduate program at the College for Financial Planning in Greenwood Village, Colo., and author of the book Finding a Real Cowboy: How to Protect Your Money from Wall Street and Financial Planner Wannabes, calls a "fiduciary mind-set."
Think of it as the financial equivalent of the "primum non nocere" oath -- "first, do no harm." Doctors swear by this creed in treating patients. Financial advisors who abide by a fiduciary mind-set treat their clients similarly.
How to be your own financial matchmaker
Most often, advisors won't show they're adhering to a fiduciary mind-set until you've signed on the dotted line. That's the bad news. The good? In his book, Pasztor lists 10 factors that increase, but don't guarantee, that you're hiring a financial advisor who'll give competent advice. I've listed them below.
1. Your advisor acts as a fiduciary at all times, whether by law or by principle. Good advisors have a history of choosing what's right rather than what's most profitable. Have every advisor you interview provide references, and seek examples where they demonstrated loyalty to their clients first.
2. Your advisor charges a standard fee for services rendered. Former broker and financial blogger Josh Brown, author of the new book Backstage Wall Street, says there's never a reason to trust your money to someone who operates solely on commission. Pasztor doesn't go that far, yet he also argues that the fee-for-advice relationship rightly shifts value from the products sold or size of an account balance to the quality of the advice given and the goals accomplished as a result of working together.
"This idea of financial planning being like real estate where you hire a realtor, and they show you around, and they do all this work for you to ultimately get a reward at the end isn't a good model for financial planning. It's a terrible model," says Pasztor, who performs fee-only advisory services when not teaching.
3. Your advisor fully discloses, in writing, his experience, conflicts of interest, and compensation up-front. Not surprisingly, a registered investment advisor who abides by the fiduciary standard will meet these criteria as a matter of course. But if you don't have an RIA -- if you use a broker, insurance agent, etc. -- then you should know everything that might influence that person's recommendations, all of which should be made available in a plain English copy of Form ADV as prescribed by the SEC. Leave nothing to chance, lest you risk accepting a product that fails to advance your financial goals.
4. Your advisor considers the big picture of your financial situation before advising on products or recommending specific actions. Pasztor calls this principle "relativity," meaning that all advice is relative to the situation you find yourself in financially. If you're in debt, your best plan may be to forego investments for some years and use excess cash to cut balances. As Pasztor puts it: "Advising on your big picture financial situation -- that person doesn't necessarily have to be an expert in managing assets."
5. Your advisor holds the Certified Financial Planner designation, a bachelor's or master's degree in financial planning, or another substantial certification. No other certification holds more weight than the Certified Financial Planner certificate. Advisors who've earned it are more likely to act as a fiduciary planner because they've been trained like one.
6. Your advisor is experienced. Pasztor counsels hiring someone with a few years of experience as an independent advisor in order to avoid getting advice that's "captive" to the firm they work for. Many new advisors rely on canned ideas from a faraway research department rather than customized advice. By contrast, a great advisor will have many years of handling different sorts of complex financial situations and bring that experience to bear in addressing your own unique needs.
7. Your advisor follows a process for discerning your needs and offering recommendations. Great advisors have a process for assessing your "big picture" financial situation, including income, debts, and goals. Bad advisors are more product-driven, Pasztor says, in that they allow the promise of fat payouts to influence the content (and subsequently the quality) of their advice.
8. Your advisor has a clean regulatory record or a plausible explanation for prior citations. History says a lot when it comes to the business of financial advice. Use FINRA's BrokerCheck website to check certifications, work history, and any citations and investigations before hiring anyone. These reports provide details of what happened, why, and what, if any, penalties were assessed.
9. Your advisor is a member of a leading professional organization. Good advisors tend to be engaged with their peers. In his book, Pasztor singles out two organizations that help advisors grow in the profession. First, the Financial Planning Association, or FPA, has a web-based tool for finding an approved planner. Second, the Society of Financial Services Professionals has a similar tool that allows consumers to search by specialty as well as products offered.
10. Your advisor embraces continuing education and attends conferences. Finally, choose an advisor willing to invest in staying up to date. "That's what you want," Pasztor says. "You want that eagerness. Like anything in life, you're looking for someone who is gung-ho in what they do."
I'm supposed to give this to you, but...
How does the fiduciary mind-set manifest itself? Bob Hartley, a mid-30s software developer based in Washington, D.C., says his advisor routinely acts in his best interests. He shared an example: "I get up and he says, pointing to the garbage can outside his office: 'I'm supposed to give you this, but I'm telling you right now to throw it away. The life insurance product you're getting from the federal government is much better.'" Hartley called it a moment of clarity. His advisor had demonstrated a fiduciary mind-set.
Not all money managers are required to act as fiduciaries. Broker-dealers that buy and sell stocks and insurance agents usually must meet what's known as a suitability standard, requiring them only to limit sales pitches to products that may be suitable given your age, income, and tolerance for risk.
Think of an 80-year-old retiree with a $10 million portfolio and $150,000 of annual living expenses. Selling that person a volatile tech-stock mutual fund is probably unsuitable. A dividend fund, on other hand, might be perfectly suitable. What's missing is any requirement to know more.
"Having a fiduciary mind-set is really just putting the client's best interests first at all times," Pasztor says. "In other words, you're thinking about outcomes for the client rather than outcomes from activities."
Good advisors make a difference
Ultimately, service is what differentiates a good advisor from a mediocre one. Are goals being met? Is there progress to report? Is there clear evidence of the advisor meeting a fiduciary standard, even if not required to do so under the law? Even more than asset performance, these are the questions that matter, Pasztor says. For as this series sadly shows, the industry has a spotty record when it comes to doing what's right for clients.
"If a fiduciary requirement requiring plain language disclosure of conflicts of interest was put in place, I bet two-thirds of mutual funds and 80% of annuities would disappear," financial advisor Ric Edelman said in a recent interview.
Edelman, host of the radio program, The Truth About Money, was making an important point, if indirectly. Never blindly enter an interview with an advisor. Know what's being recommended, why, and what you should expect to get out of it.
"Any kind of financial incentive [creates] a conflict of interest," Edward Jones managing partner Jim Weddle says. "The key is disclosure. Disclose how you're paid. Don't let clients find out about it in an article or the invoice."
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