How I Would Choose A Financial Adviser

I haven’t written about financial advisers for months, so I guess it’s probably time to do it again.  Many people think I hate financial advisers.  That’s not true.  There are many very nice people giving financial advice out there.  Some of them are even competent advisers.  In my experience, most physicians and similar professionals would benefit from using a solid adviser, despite the additional cost, and shouldn’t feel guilty in the least for needing or wanting to use one.  On the flip side, there’s nothing wrong with doing it yourself, so long as you do it.  If I WERE going to use a financial advisor, here’s what I would look for.

1) Fee-Only

I want an adviser whose incentives are aligned with mine as much as possible.  The best model I’ve seen is found with the Utah Medical Association Financial Services firm.  Their firm is owned by the physicians and the advisers are salaried.  No incentive to increase the assets under management, spend more hours than necessary on your case, or sell you commissioned products.  Unfortunately, that model is pretty rare.  Other good models are paying an annual retainer, paying an hourly rate, or paying as a percentage of assets under management (AUM).

2) Low Fees

Not only do I want to avoid commissioned salesmen, I also want the fees as low as possible.  My goal would be to pay less than $3000 per year for asset management services.  If I were paying hourly, I’d expect to pay less than $200 an hour.  If I were paying as a percentage of assets under management, I’d expect to pay less than 1% per year, and certainly no more than 0.25-0.5% on assets over a million.  I’d definitely total it up and make sure it was less than $3000 per year unless the adviser were providing significant additional services, such as doing my taxes.  If the adviser was also selling insurance, I’d expect to pay lower fees since he is also being compensated by the commissions from the insurance products.

The most important thing about fees is to know how you’re paying and how much you’re paying.  Then divide the total by how many hours you expect the adviser will be spending on you and your account.  Is the hourly rate reasonable?  If he is making four times as much per hour as you are, you may be getting ripped off. (Although it is quite possible he can add enough value to more than make up for his fees, depending on how financially helpless you are.)  Remember that every dollar you pay in advisory fees is a dollar not in your account when you retire.  It’s okay to negotiate lower fees.  This isn’t McDonalds where you look like a cheapskate for negotiating.  Lowering AUM fees from 1% to 0.8% on a million-dollar account means an extra $2K in your pocket every year.  The worst that an adviser can say is “no.”  Don’t forget to readdress the question as your accounts grow.  He might not have been willing to manage your money for 0.5% when you only had $100K, but now that you’ve got $600K it is a completely different question.  Trust me, he’s hoping you’ll never bring it up again.  In fact, the typical model is to bring you on with an account value so low that he’s actually losing money on you, then as the account grows it gets to a reasonable amount, and then after a few more years, he’s raking it in.

3) Maximize Value Added Services

It’s important to understand what you want the adviser to provide.  If you want him to provide financial planning services, make sure those are included.  Some advisers are really only interested in asset management, which is fine, as long as you know what you’re getting.  If I were paying “full-price” I’d also expect some help with budgeting, cash flow, taxes, student loan management, insurance, retirement accounts for my employees, estate planning, asset protection, mortgages and refinancing, investment property management etc. Ideally, all of these services would be available under one roof for one clear price.

Now I understand that it would be pretty unusual for a firm to provide all of these services.  But many physicians don’t understand that their adviser probably only does one or two of these well.  The more of these tasks your adviser is qualified to do, the more value he can add.  Many financial advisers consider themselves similar to a family practitioner in that they refer you to specialists as needed.  Unfortunately, like a bad FP that just refers every hypertensive to cardiology, every diabetic to endocrinology, and every knee pain to orthopedics, a bad adviser can’t actually do anything for you without assistance.  I see no reason to pay an adviser like that.  Worse, there are laws that keep a doc from getting kickbacks when he refers a patient to a specialist.  Those don’t exist in the financial world.  If I’m paying a financial planner and I need a service he can’t offer me, he darn well better refer me to the best attorney, accountant, or asset manager out there.  If he only knows a couple, or worse, just refers me to his friends or those with whom he has a financial relationship, that’s hardly value added.

4) Understands His Limitations

A good adviser understands what his role is, and educates the client about it.  For example, an asset manager’s role is to set up a reasonable, low-cost portfolio, maintain it, and ensure that the client doesn’t do stupid things with it, like sell out at the bottom of a bear market. If he thinks the value he adds is timing the market, choosing the best stocks or hottest actively-managed mutual funds, or somehow trying to achieve more than market returns, you would do well to steer clear.  Bernstein pointed out recently that you should show a prospective adviser your current portfolio of low-cost index funds.  If he wants to make dramatic changes, you’ve probably got the wrong guy.

5) Has Access to DFA Funds

DFA is a mutual fund company whose funds all follow the principles of passive investing along with a heavy tilt to small and value factors.  It isn’t a mutually owned company, like Vanguard, so the expenses are a little higher, but there are some significant advantages their funds hold over Vanguard funds.  I don’t believe the DFA advantage is quite large enough to overcome the additional cost of the required adviser, but if I were going to pay an adviser ANYWAY, I’d want one with access to DFA funds.

6) Physician-oriented

It would also be nice if the adviser specializes in physicians, and is aware of the unique financial situations doctors find themselves in.

7) Reasonable Credentials

Credentials mean little in the financial advisory business, but If I were going to pay someone thousands of dollars a year, I’d expect them to at least dedicate a little time to getting the highest financial advisory credentials out there- Certified Financial Analyst (CFA), Certified Financial Planner (CFP), or Chartered Financial Consultant (ChFC).  These designations require less than a year’s worth of coursework and just 3-4 years of experience.  Don’t think that’s much?  Most financial advisers carry designations that took less than a month to get.  A significant designation demonstrates commitment to the profession.

8) Experienced

Most of us at one time or another have had a patient look at us and at least silently wonder “Is this guy old enough to be my doctor?”  Many people think the best docs are about 10 years out of residency, because they’ve got enough experience to have handled thousands of routine cases and a few bizarre ones, yet they’re not decades away from their training and out of date.  Just like you don’t want to be admitted to a teaching hospital on July 1st, you don’t want an adviser in his 20s.  You want someone who has been doing this at least 10 years.  Hopefully that’s enough time that he’s passed through both a bull market and a bear market, and isn’t likely to do stupid things in the next one.

I hope these tips are helpful to you as you evaluate both new and existing financial advisers.  What have you found helpful in choosing advisers?


How I Would Choose A Financial Adviser — 10 Comments

  1. Interesting perspective on why DFA expense ratios are higher than Vanguard. I always chalked most of it up to not tracking traditional indexes, increased number of holdings, and tilting to less liquid areas of the market that are slightly more expensive to participate in. It would be interesting to know how much is associated with not being a mutually owned company.

  2. Your description of what out takes to get various credentials is incorrect. CFA is 3 difficult exams over 3 years, plus work experience. Some consider the course load equivalent to an MBA. CFP requires completion of a 5-6 part course, a 1.5 day exam, plus 3 years of work experience. Don’t know about the ChFC, but I’m sure you can easily find the info and update it for your readers.

  3. You are correct that the CFA is the more difficult of the three designations and has the more rigorous exams. As I understand it, the exams must be taken over 3 years but I still consider it less than a year of full-time coursework. Most people study for it while working full time, of course.

    One source suggested this:

    “Plan to study about 250 hours total for the Level I exam, or 15 hours a week for four months. And that may be on the light side.”

    That’s what I would call 6 weeks work. Assuming the other exams are similar, we’re talking about 18 weeks of 40 hour a week studying, well less than a year’s worth of effort. The CFA does require 4 years experience, not the 3 that CFP and its insurance-based cousin ChFC require.

    Keep in mind that most of those reading this post spent 7-10 years after college preparing for their profession. 18 weeks is not an impressive statistic to this group, even if 1/3-2/3rds of those taking the test fail the first time. I suspect most of those failures either weren’t that bright or didn’t prepare adequately. I, and most readers, spent a solid 250 hours preparing for the MCAT just to get INTO medical school.

    All that said, the CFA, CFP, and ChFC are head and shoulders above most of the garbage credentials being thrown around in the financial world.

  4. I spent 2 hours speaking with a Vice-President of a multi-million dollar company that does accounting for corporations on a plane a few months ago. He is a CPA and has his MBA as well. He told me that he would absolutely go for someone with a CFA only. The CFA Institute has a database of those who passed the tests. I have had a hard time finding one in my area that 1) deals with personal financial planning and 2) deals with physicians. Anyway, the guy on the plane told me very plainly, “You are a doc and not necessarily a business man. With that, you are still smart, so, get advice from a financial planner, but DO NOT had them the keys to your wealth. You make the decisions.”

    Finally, I think one of the most important thing a financial adviser needs is a Fiduciary Statement.

  5. Hey Whitecoat – just came back to read responses. For the most part we agree on things, but I completely disagree with the comment that Why something costs more is not important. For example if I pay a little extra to avoid reconstitution risk, increase diversification, or invest in more expensive areas of the market (due to less liquidity) than the increases on expected return or risk reductions may outweigh expenses. If I am paying 25 bips for a 12b-1 fee than definitely not worth it. Knowing what you’re paying for is always important.

  6. Although this is a promising idea, it couldn’t be helped that every financial consultant will strive for a better pay. Just as all people are trying to make a living, they too want to move up in life and don’t want to be stagnant. If they do a really good job, I think they should be rewarded with higher pay plus commisions depending on the situation.

  7. What promising idea are you referring to?

    I don’t blame advisors for wanting more. I blame investors for paying it.

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