What’s a Financial Advisor Worth?

The Vanguard Group, which is the world’s largest mutual fund company and is known for catering to “do it yourself” investors, admits that working with a financial advisor pays off. The conclusion of Vanguard’s study, “Quantifying Vanguard Advisor’s Alpha” is that working with an advisor increases client’s investment returns by 3%.

Why don’t more people work with a financial advisor?

Most people don’t have a financial advisor. I think most Phoenix residents could use one.  Right now, the majority of people choose to handle their own finances and investments.  I believe that this is because many don’t understand the value of an advisor.  Now, I could talk at length about all the wonky reasons I think you should work with one, but I’d rather relate with folks.  So instead, I’m going to talk a bit about one of my favorite subjects: Cars.

I grew up just outside of Detroit, Michigan.  My Great Grandfather worked on the Fisher Body line.  My Grandfather worked the Cadillac line.  Both my father and myself worked for automotive companies.  While the love affair with the automobile has been on the decline in America, it was going strong back home when I was growing up.  I’ve been working on cars for a quarter century now.  I still go out and work on my old Mustang when I get the time.

boots

I’ve been working on cars long enough to know what I can and cannot tackle.  Sometimes, it would take me too much time to make a repair.  Other work requires expensive tools that I don’t have access too.  When I get to that point, I know it’s time to take my vehicle to a professional.

I’m pretty good at working on cars… but knowing my limits has saved me thousands of dollars over the years.  Investing for your future is similar.  Some people might be good at investing.  Others may like the work.  But when you run out of the time or the skill needed to do the work right, it’s time to reach out to a pro.  The last thing someone wants to do is find out too late that they’ve made a mistake with their money.  It could cost you your retirement.

People take their cars all the time to the mechanic.  You put faith in your doctor.  You rely on the expertise of your lawyer.  Why, then, do so many people avoid working with a financial advisor?  The answer is obvious.   Finance is an extremely personal subject.  It’s also a highly emotional subject for most.  When you add Wall Street’s well-deserved reputation for preying on people, it’s easy to understand people’s apprehension.

Why is it so hard to find a good advisor?

For a person to seek help with their finances, they have to understand the value of working with an advisor.  They need to know why they would pay someone for their services.  People can see the results working with a mechanic.  You know what your doctor does.  When it comes to financial advisors, there’s a lot of confusion about what an advisor is supposed to do.

I believe the confusion comes about for two reasons.  The first is that Wall Street has created an army of salesman posing as financial advisors (Protip – If you’re working with a ‘Financial Solutions Advisor’, you’re actually working with a salesman).  A recent study on occupation showed that around 80% of financial advisors have a common world view.  With so many salesmen and so few actual financial planners, it’s easy to see where misconceptions come from.

The second reason I think people don’t seek out an advisor it that it’s really hard  to picture the future.  With everything we have to focus on now,  thinking about goals ten, twenty, even thirty years out isn’t on most minds.  Many people simply don’t look for help. This is the greater of the two problems.  Look, it might take a while, but you can eventually find a qualified advisor.  If you put off planning for retirement because it’s too far away to think about… you’re might find out too late that your on the wrong track.

What to expect

A financial advisor’s job is to understand you as a client.  From there, an advisor will prioritize financial goals.  Once you have worked together to develop specific, defined goals, the advisor will recommend an investment strategy based on your individual or family situation.  Once that plan is implemented, the advisor needs to continually monitor progress towards that goal.  Every six months, clients and their advisors need to meet to discuss any plans or changes.

Let’s look at retirement as an example.  With my clients, I need to know where they are now and what we’re working with.  I need to get as complete a picture of their finances as I can.  My clients can log in on PHXplan.com to see their entire financial picture.  The software I use for planning allows you to enter your online financial information and aggregate everything in one place.

This makes it easy for a client to track their spending and savings.  For myself, I now have the ability to look for areas of opportunity. I might spot an interest rate that we can get lowered.  There might be new ways of saving towards your goals.  I can recommend investment strategies that complement our plan even if those funds aren’t held with me.   Having this information allows me to build a strategy for the future.

Knowing what your lifestyle is like now helps me build your future.  I review your current expenses and project which bills you’ll need to cover once you stop working.  Will you have car payments, a mortgage, a child in college?  I have to build that into the budget.  Are you going to be a homebody or travel the world?  Clients can look at the numbers and make changes with a simple click.

Below is an example of one of my client’s cash flow.  They’re good until age 91.

cash-flow-at-retirement

This client owns his own business.  What if he’s thinking of selling the business at retirement?  As an advisor, it’s my role to compare and contrast financial options.  With a quick click of the mouse, here’s his new cash flow after selling the business.

Cash-flow-retirment-plan

An extra $12 million isn’t a bad problem to have.  Of course, my role as an advisor isn’t just regurgitating data back to the client.  I have to come up with ways of protecting my clients (insurance).  In this example, I’ve had to develop strategies that minimize taxes.  Additionally, I have to ensure that my client’s estate is in order.  My goal is to minimize taxes as well as ensure that the client’s legacy is fulfilled.  For all the years I work with my client, I also need to be there to provide sound financial advice and guidance.

What does a Financial Advisor Cost?

A man has tried everything to get his drain unclogged.  Eventually, he reaches out to a plumber.  When the plumber arrives, the two of them head down to the basement.  The plumber spends a few minutes looking around at the pipes.  After a while, the plumber pulls out a hammer and starts tapping around on the pipes.  After a tapping around for a bit, he swings the hammer hard against one of the pipes.

The sound of water flowing freely comes afterwards.  Sure enough, the drain quickly clears.  The plumber tells the man, “That’ll be a hundred bucks.”  The man responds a little surprised, “Wait, all you did was hit the pipe with the hammer.”  “I know,” the plumber replies, “It’s a dollar to hit the pipe.  The other ninety-nine dollars is for me knowing where to hit it.”

The moral of the story is that the work performed may seem simple enough… that’s because a professional knows what they’re doing. You’re paying for that knowledge.

The most basic way to get financial advice is to pay a commission.  Different investment products have either upfront costs or higher internal expenses that pay the salesman.  Don’t waste your time doing this. Since a salesman gets paid on commissions, they have the incentive to trade in an account against the interest of the client.  Some companies offer low cost investments without these costs.  The tradeoff is that you’re not going to get any meaningful advice. If you are truly looking for financial planning, the only way to go is to find a fee-only planner.

Fee only means that there are no commissions paid to the advisor.  This prevents a conflict of interest.  As a fee-only advisor, I’m not looking to invest you into what pays me more… I’m looking for your best option.  Obviously, I like to keep my family fed and a roof over my head, so I have to be compensated for my work.  Fee-only investors either charge by the hour, by the project, or by a percentage of investments under management.

A true advisor is required to provide legal disclosures prior to entering into a contract with the client.  The disclosure is known as Form ADV.  One important bit of information provided in this form is an advisor’s compensation structure.  If you’re building a simple investment plan, you can approach the costs by the hour.  Typical costs per hour range from $100 to $300, depending on the complexity involved.  Many advisors will charge by the project, with costs running from $1200 up to $5000 for a complete plan.  Keep in mind, the typical financial plan takes and average of 15 to 20 hours to create.  For investment management, the typical expenses run from 1% to 3%.

My cost structure is $150 an hour, with most plans running from $1200 – $1500.  I charge 1% annually and my custodian charges .25%.  The custodian does not charge me to place trades, which saves my clients money during the quarterly rebalancing.  My costs and minimal investable assets are lower than many advisors because I’m catering to the average person.  Here in Phoenix, I want to see local business owners, teacher, or artist successfully achieve their goals.

Hopefully,  future financial advisors will focus on doing right by their clients, rather than doing what’s best for their wallet.  Until then, advisor’s like myself will keep putting out information on how to make smart decisions when it comes to your finances.  You need to know who to trust, how much to spend, and what the benefits of working with an advisor in order to make your financial dreams happen.  Even if your dream is a ’33 Plymouth.

boots2