How to Pick a Financial Adviser
A roadmap to making the right choices
You can thank Bernie Madoff for one thing:
His widely publicized crimes demonstrated how important it is to choose your financial adviser carefully.
Picking the right person takes research, and lots of questions and legwork, but consider the potential payoffs of making the best choice: Your children attend the college of their choice and graduate debt-free, and you get to retire at age 65 or younger with enough money to finally see Paris in the spring.
Make the wrong choice and your kids are stuck at the LowCost U, yet still end up with a pile of loans to repay, while you keep working till your heart gives out.
To help you find the right adviser, Hawaii Business spoke to a dozen financial experts and created this roadmap. Follow it and we just might see you in Paris.
Before You Talk to Advisers
Set goals: Figure out what you need and want. If you’re in your 20s or 30s, ask yourself: Do I want to buy a home, send my children to private schools, save for college, save for retirement? If you are older, decide when you want to retire and where. An adviser will need to know your goals, debts, income, assets and likely salary increases.
Educate yourself: Learn about your investing options so you’ll be ready to ask educated questions of potential advisers. Here are some learning approaches:
• Start with reputable and independent online sites like Morningstar, Lipper and 401khelpcenter.com. They offer tutorials on investments, research and other tools.
• Attend a course or workshop; The University of Hawaii offers online courses at www.hawaii.edu/dl/courses/ such as “Take Charge of Your Money” and “Personal Finance.”
• Read a tried and true guidebook, like updated versions of “The Intelligent Investor,” “A Random Walk Down Wall Street,” “Common Stocks and Uncommon Profits” or “Bogle on Mutual Funds.” Avoid trendy titles that promise quick riches or “secrets” to investing success.
Collect names: Ask your parents, other relatives and trusted friends about the pros and cons of their advisers. As you collect names, study the initials that follow those names and find out what they mean (See “Advising’s Alphabet Soup,” page 41).
Check ’em out: The Financial Industry Regulatory Authority is the largest independent securities regulator. Go to finra.org and click on BrokerCheck to learn about an adviser’s training and education, employment data and whether or not they’ve been involved in customer disputes or disciplinary action. Advisers must file clearances and are obligated to update this site. (A complaint may be filed here, but may be unfounded. Check on the filing’s results.)
What to bring: For the first interview, consider bringing your tax returns, W-2s from the previous year, salary slips – a snapshot of your assets and liabilities. This information helps you get the right person if you’re seeking a referral from the head of an office, like Merrill Lynch and Co., says Diane Kimura, vice president and wealth management adviser with Merrill Lynch in Honolulu.
If you’re not certain you will be picking this person, you may not be ready to divulge your personal finances at a first meeting. In that case, bring more general information but not the forms.
How to Interview Potential Advisers
Prepare in advance: Generic financial advisers with little training can hang out a shingle, so ask each one about their education, background and work experience.
As you make appointments to meet advisers, ask if the first interview is free (it should be).
Your questions: Ask a lot of questions, but also expect the adviser to ask you lots of questions; if they don’t, they may be more interested in your money than in helping you, so cross them off your list. Ask about:
• clients you can speak with as references;
• their experience working with people like you;
• their fiduciary responsibility and loyalty to you;
• the value of the assets they manage.
You want someone with over five years of experience managing a lot of assets; credentials showing rigorous training; a solid background in finance; and a high level of fiduciary responsibility, meaning they are putting you first, not some funds that pay them high commissions.
Fees and commissions: Make sure to cover this important topic in the first meeting. Advisers are compensated in several ways: a flat fee paid by you; a small percentage of the assets they are investing for you, which could also be the fee; commissions, which are essentially kickbacks from the funds in which they invest your money. Get full disclosure from the adviser about how he or she is paid. Generally, as a portfolio increases beyond $1 million, the fees become proportionally smaller, generally less than 1 percent of the total.
“If they’re (flat or percentage) fee only, you’re on the best track,” says James Haskins, an independent certified financial planner who has been in the business for more than 40 years and whose fee is a minimal percentage of his client’s portfolio. “They only make money if their advice is working for you. In my world I’d rather see someone on a fee-only basis (rather than paying commissions on what they sell you). It puts them on the same basis as your lawyer or accountant. They’re paid for only one thing – to do the job for you. That way they would not be attracted to steering business to the higher-paying products that the firm makes money from, too.”
Ask where your money is kept: “People need to make sure that their money is held and safely kept at a very large U.S. custodian,” says Cris Borden, a registered investment adviser with his own firm, Kobo Wealth Conservancy, and Hawaii municipal bond portfolio manager at First Hawaiian Bank from 2000 to 2007. “That’s the problem investors had with Madoff. He custodied the money at his own firm and created statements. Those duties have to be separate. It’s a matter of risk control.”
Kobo, for instance, works with several large custodians such as Fidelity Investments. Clients receive a statement of assets and their value from Fidelity, while Kobo produces quarterly performance statements on the account.
How will they communicate: Do you want to get regular e-mails from your adviser? Or are you content to meet once a year or talk on the phone from time to time? Ensure that you’re comfortable with their methods.
Ongoing training: The investing industry is not static, so advisers need to keep learning all the time. “All the firms nowadays have great in-house training. Plus we have continuing training as well,” said Colleen Blacktin, vice president and branch manager of Charles Schwab’s Honolulu office. “For instance, we just finished doing a training on ETFs – Exchange Traded Funds that trade like stocks but have low operating expenses.
“Schwab encourages all our employees to pursue additional educational opportunities, with several of our Hawaii professionals holding masters degrees in finance, accredited asset management specialist (AAMS) designations and certified financial planner (CPF) certifications. … Every few years, we have to be tested. FINRA and the SEC (Securities and Exchange Commission) require that.”
How to Invest
Retirement: To have the nest egg you need for retirement, you’ll need to start saving between 10 percent and 18 percent of your gross income annually.
“We see more people outliving their assets because they aren’t putting enough away to live beyond 78,” says Borden of Kobo Wealth. “People are going to be living into their 90s and the rule of thumb in our world is you need to be putting away 15 percent of your take-home paycheck each year to be able to maintain your lifestyle after retirement.”
At retirement, a person’s nest egg should be 15 times their annual salary, he says. So if you’re earning $100,000 per year now, your nest egg needs to be $1.5 million. “The average individual only has a nest egg three times their annual income at retirement,” he says.
Investing philosophies: Different people are comfortable with different levels of risk. The greater the risk, the greater the potential for big gains or losses. In general, the younger you are, the more risk you can afford. There’s a rule of thumb that the bond levels in your portfolio should be the same as your age. Therefore, in your 20s, bonds should be around 20 percent of your portfolio; in your 30s, 30 percent, and so on. The remainder should be in growth stock. That way, if there’s a market downturn when you’re in your 40s, there’s still time to recover.
Well-balanced portfolios generally include a mix of American small-, medium- and large-capitalization companies, and foreign companies as well. No-load mutual funds are considered the best deal because they have a mix of stocks and you pay no commission.
“People may feel they can create wealth by investing in five or six companies, but we feel that’s a highly risky way to invest. … You need diversification,” says Schwab’s Blacktin.
“We’ll find what their risk tolerance is and we’ll suggest a managed portfolio, usually at about 0.5 percent cost. That would be a diversified portfolio of mutual funds professionally managed. For someone with $50,000 to $100,000, that’s what I would recommend. … Once you have $500,000 or more, you can build a more diversified portfolio.”
Vanguard, for instance, has a low-cost family of mutual funds. That’s good because the higher the expenses, the less money you earn. Morningstar.com ranks funds, and tells you the expenses and risk rating for each.
What return can I expect? “Expected risk and return must go together,” says independent multibillion-dollar pension-fund manager Matthew Hutcheson based in Idaho. “You need to ask, ‘What can I expect as a long-term return on my capital? How would that compare if I were to invest in some other strategy?’ They should be able to give you a number – somewhere between 3 percent and 7.5 percent for a long-term investment timeframe.” (Expect 3 percent for older investors who don’t want much risk and 7.5 percent for younger investors.)
“Historically, the stock market has returned just under 10 percent a year, so the adviser should be able to tell you what to expect to happen over the next 15 years,” says Hutcheson. “If they can’t, drop them like a hot potato.”
Making your choice
Your comfort level: There should be a rapport on the first visit. You should pick someone with whom you can have a long-term relationship. It’s like a marriage because your financial adviser should know almost as much about you and your spouse as you know about each other.
“The adviser is really someone who should see them holistically through life,” says Merrill Lynch’s Kimura. “If they only have $5,000 to invest, it’s worthwhile to pay someone to help them with budgeting and get them pointed in the right direction. For that they should pay by the hour. It’s worthwhile to have someone refine your financial process and objectives and also your financial personality and how you do goal setting. And then how you measure against your benchmarks. If you’re a young couple starting out, start with that.”
Once established, Kimura says the client/adviser relationship has to be completely honest. “I’ll ask clients things like, ‘Do you have a mistress? Are there children from other relationships? Is there a congenital medical issue in either family?’ I’ll ask, ‘Do you have any drug or alcohol issues with children? Do you feel they’ll be equipped to inherit your estate?’ Then we’ll talk about what some of the solutions are.”
Kimura says a good adviser will prepare a client for life’s transitions, such as retirement or changing jobs, long before they occur.
The adviser’s philosophy: “You will want to learn if they favor a style or class of investments,” says Cindi John, a financial adviser and CFP with Edward Jones. “If it’s someone with a ‘one-size fits all’ mentality, you may want to go elsewhere. If you’re a conservative investor, you may want to avoid someone who specializes in options. I would not go to a stockbroker for real estate advice. So ask what kinds of services your adviser offers to see if it’s a good fit for you. Some only sell investments. Others offer investments and insurance. Others have a team approach that could be very beneficial.
“At Edward Jones, for young people starting out, we help them put together a plan and we don’t charge for that. This could be several hours of work, but someone just starting out doesn’t need an elaborate plan. They just need to get into the habit. You need to know their goals and their objectives to know what strategies to recommend.” missing image file
The Client Should Come First
As an independent fiduciary and manager of dozens of pension funds worth a total of $6 billion, Idaho-based Matthew Hutcheson is a player on the national financial scene. He is called on to testify before Congress and is pushing strongly for Wall Street reform and higher ethical standards across the nation.
As part of the steering group of The Committee for the Fiduciary Standard (www.thefiduciarystandard.org), Hutcheson urges lawmakers to increase the fiduciary responsibility of all financial advisers. A fiduciary standard generally means that financial advisers must put their clients’ interests ahead of their own.
“If you need ongoing financial advice, it’s important that the person has a duty of loyalty to you,” he says.
These are the five core principles every adviser should follow, according to the committee.
1. Put the client’s best interest first.
2. Act with prudence; that is, with the skill, care, diligence and good judgment of a professional.
3. Do not mislead clients; provide conspicuous, full and fair disclosure of all facts.
4. Avoid conflicts of interest.
5. Fully disclose and fairly manage in the client’s favor.
Advising’s Alphabet Soup
Broker/dealer: An individual or company licensed to buy and sell investments to or for clients. Companies generally offer on-going training to their people to keep them current. The FINRA Web site lists licensed firms.
Financial adviser: This generic term covers a broad spectrum of financial professionals but does not indicate any particular skill or training.
Certified Financial Planner: A CFP has several years of education generally covering 10 areas of finance, plus adherence to ethical standards set by a governing board.
Chartered Financial Consultant: A ChFC can be used by financial professionals, including attorneys, bankers, accountants, insurance agents and securities representatives. They must complete an eight-course program, meet experience requirements and adhere to a code of ethics.
Registered Investment Adviser: An RIA firm or individual providing advice on securities for compensation must register with the Securities and Exchange Commission. An individual RIA has fiduciary responsibility and is held to a high standard of conduct. To find one, sec.gov is a good place to start.