How to Pick an Investment Advisor

It’s a question financial experts get all the time: how should I chose an investment advisor?

The number of people offering some form of financial advice is growing fast. According to Smart Money, “the ranks financial planners, college aid advisers, mortgage brokers and more are expected to increase by 30% by 2018, to 271,200” per the Bureau of Labor Statistics.

Obviously some of those 271,000 people will be better than others. So how do you find the right advisor?

That seems like a simple question, but it turns out that checking off the boxes on a list of questions doesn’t really cover it.  (Though it’s a good starting place and we offer a good list later in this post.) Whether you like it or not, choosing an investment advisor requires a certain amount of faith. You can investigate his or her background and look for certain good signs, but you also must be comfortable when you look that person in the eye. You must trust them.

“A good relationship in terms of financial advice has a lot to do with trust,” says Carl Richards, founder of investment advisor Prasada Capital, and a prolific writer about personal finance. “That’s a tough reality in the post-Madoff world.  If you’re going to get good advice you’re really [going to be] talking about some things that are really, really important to you.”

How do you chose a doctor, a lawyer or an accountant? That’s a good gauge of how you’ll find someone to help you plan your financial health too.

Trust: the most important part of choosing an investment advisor

Legally, an investment advisor is meant to be someone you can trust. Like your lawyer, they have a fiduciary responsibility to put your interests first. This is not the case with brokers (a/k/a stock brokers) who make money selling stuff and actually legally have an obligation to their employer. Generally selling more stuff is the most beneficial move for a brokerage firm, though not always the best for the client. (This distinction may change. A recent study by the Securities and Exchange Commission says brokers who provide advice should also be fiduciaries, but for the moment, they are not.)

But there’s a big difference between legally trustworthy and someone you actually trust. Mike Piper’s rule of thumb from his post on this topic:

Ask yourself this question: “If my portfolio had just gone down 40% in the last 3 months, and this person was telling me that I need to just stick with our investment plan rather than take my money out of the market, would I be able to believe him? Would I have sufficient trust in the plan we designed together to be able to stick with it?” If you can’t answer “Yes” to that question, you should probably keep looking.

There are some definitely red flags anyone should watch out for.  Steve Thorpe,  founder of Pragmatic Portfolios, a Registered Investment Advisor based in Durham, NC, highlights the following fraud warning from the North Carolina state regulators:

The most common psychological tactics con artists employ against their victims:

  • Promises of Wealth – The salesperson dangles the promise of wealth in a short period of time, often “guaranteed” with “little or no risk” involved. Remember: All investments carry risk.
  • Trappings of Success – The salesperson projects the image of success or offers testimonials, “proving” he and the offer are “legitimate.” Remember: Credibility can be faked.
  • The “Lemming” Effect – The salesperson tells you that others are investing and that you should too or risk losing out on a good deal. Remember: If everyone jumped off a cliff, would you?
  • Favors – The salesperson gives you something (like a free meal or a discount) hoping you will feel obligated to give him something in return (like your money). Remember: You have no obligation to return any business- related favor.
  • Act Now – The salesperson pressures you to “act fast” because the offer will only be available “for a limited time.” Remember: Do not feel pressured to make a quick investment decision.”

Questions to ask any prospective financial advisor

Several organizations have put lists together of the questions to ask when you are interviewing an advisor. The SEC’s publication Investment Advisers: What You Need to Know Before Choosing One has a lot of helpful information including directions on how to look up disciplinary records for a variety of financial advisers.

Here are the questions endorsed by the Consumer Federation of America, part of their brochure Cutting Through the Confusion.

■ What services do you offer?

■ What qualifications do you have to offer those services?

■ How do you charge for those services? Do you receive compensation from other sources if you recommend that I buy a particular stock, mutual fund, or bond?

■ Would my account be an advisory account or a brokerage account?

■ Are you required by law to always act in my best interests? Will you put that commitment in writing?

■ What potential conflicts of interest do you have when recommending investment products to me, and will you disclose those conflicts?

■ Will you provide me with a written record of any disciplinary history for you and your firm?

■ Will you give me your Form ADV (the registration form that must be filed by investment advisers) and/or your Form U4 (the registration form used by persons who work with brokers)?

(Part Two Tomorrow: Fees, Disciplinary Issues, and Track Record.)

As always, please add your thoughts, ideas and experiences below.

2 thoughts on “How to Pick an Investment Advisor

  1. Pingback: Tweets that mention How to Pick an Investment Advisor « Portfolio Investing Blog: Portfolioist -- Topsy.com

  2. Pingback: Investing Blog Roundup: Calculators

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