A Hierarchy of Advisor Value

I talk often with lots of advisors of all sorts and from a wide variety of firms. They are profoundly disillusioned an astonishingly high amount of the time. When the markets are strong, they are disappointed that they didn’t capture enough of the upside. When the markets are weak, they are apoplectic that they didn’t avoid the downturn. When markets are sideways, they’re just plain frustrated. When they try to anticipate these movements they usually fail and when they don’t – a very rare event indeed – their next moves inevitably don’t keep up the good work. They hate seeming to start from scratch every day and living from transaction to transaction, dependent upon the machinations of markets for survival.

This profound disillusionment is well-earned, of course, and is predicated upon three primary problem areas: execution; expectation; and erroneous priorities. The basis for each of these problems can be established in surprisingly short order.

In terms of execution, the trade ideas they offer rarely turn out well and the performance provided by money managers, when they go that route, almost never meet expectations such that it’s not unfair to say that much of the money management business has been an abject failure pretty much across-the-board, even for the mega-rich. Poor investor behavior makes that dreadful performance even worse — we trade too often, at the wrong times and into the wrong instruments. We chase returns via managers, sectors and trades that have been hot only to be disappointed when mean reversion inevitably sets in. Our inflated expectations make matters worse still because investors expect outperformance as a matter of course and investment managers tell them to expect it, implicitly and explicitly. That’s what makes the sale after all.

Erroneous priorities include a failure to manage to personal needs, goals and risk tolerances as well as “plans” that change with every market movement. It shouldn’t surprise anyone that clients with huge appetites and tolerance for risk when markets are rallying frequently want to go to cash at the first sign of trouble. At the advisor level, the priority problem is even more fundamental and encompasses each of these problem areas. Much of what tries to pass as “financial advice” is actually glorified (or even not-so-glorified) stock-picking. In my experience, most advisors and their clients wrongly think that the advisor’s primary function is to pick good investment vehicles.

Advisors are well aware of the failures of the money management business, of course, as well as the limitations of a transactional business model. That’s a big reason why their disillusionment is so existential. They have been let down again and again by the idea that they have (finally!) come up with a formula for success only for reality to crush those promises. Even worse, and consistent with that conundrum, a 2012 study from the National Bureau of Economic Research concluded that financial advisors reinforce behavioral biases and misconceptions – the problems outlined above – in ways that serve the advisors’ interests rather than those of their clients.

Still, many of these advisors keep hoping against hope. They routinely tell me that if they proposed a data-driven, evidence-based approach with their clients that actually had a reasonable chance for success, their clients wouldn’t perceive a need their services. Not so coincidentally, that’s a big reason why so many advisors are terrified by the proposed Department of Labor fiduciary rule with respect to retirement accounts. And that’s why the Dilbert cartoon reproduced below about index funds (one possible data-driven approach but hardly the only one) is so wickedly funny.

Hierarchy 1

Proper advisor priorities begin with a recognition of what is important and what is achievable. That’s why I have created this hierarchy of advisor value, which was developed for a presentation I have been giving to groups of advisors. Hierarchy of Advisor Value (wide)(ATM)

Managing to this hierarchy won’t make the markets any less infuriating, but doing so will make the financial advice business much more fulfilling and gratifying. It can even make that business more lucrative, at least over the longer-term. Simply put, it will require carefully and truly putting the client’s interests first, even when the client doesn’t see it that way.  Continue reading

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Why Social Security Expertise is Critical to Clients — and Advisors

An interview I gave recently to John Sullivan of Investment Advisor magazine concerning Social Security and financial planning is available here.  I will be speaking about these issues at this year’s Think Retirement Income Conference in Boston on October 10 and 11. For more information and a list of other speakers, please visit www.thinkretirementincome.com.

Why Social Security Expertise is Critical to Clients — and Advisors

Too Much Communication

Too Much InfoAdvisors are often surprised that they lose clients due to communication issues more often than on account of investment performance issues. Yet the industry has made an enormous push over the recent past to provide more information much more often. Total transparency is an oft-stated goal. Good advisors are always looking for ways to increase their number of client “touches” because they are convinced that staying in front of their clients means more business and better client retention. That’s why what I’m about to say to advisors may sound counterintuitive, scandalous or just plain wrong.

You may be communicating with your clients too much. Continue reading

Reality Check

EngEvery advisor who works with individual investors has stories to tell about engineer clients — or would-be clients.  They want to understand every detail about their investments and prospective investments.  That’s a good thing, of course, but with engineers the explanation process can take an extraordinarily long time and try the patience of the advisor.

Yet the real difficulty — or so it seems to me — is the typical mindset of engineers.  In my experience, they have particular difficulty dealing with uncertainty.  They tend to think that there is “an answer” out there.  They aren’t often comfortable with probabilistic solutions. So I was not surprised last week when I heard an engineer talking about an investment strategy available by computer program (of course) created by another engineer that appears to track over 20 years at about 20 percent annualized. Continue reading

What advisers do for clients

What Advisors Do For ClientsInvestment News took my Financial Advice: A Top Ten List and created a nifty gallery available here.  The folks at IN didn’t ask me if they could do it, didn’t tell me they were going to do it, didn’t consult with me on condensing the original piece, and (after completion and publishing) didn’t tell me they had done it — which explains why I took several days to comment on it.  However, I rather like the results.

What advisers do for clients

Why Do We Hate Our Kids?

D-DayIn honor of the 69th anniversary of D-Day, I am repeating this post from a year ago.

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We just celebrated the 68th anniversary of D-Day, and well we should.  That day in western France was the pivotal day and the pivotal event of the 20th Century.  As Omar Bradley pointed out, every man who set foot on the beaches of Normandy on June 6, 1944 was a hero – the men who took the cliffs to fight tyranny and took back a continent for freedom. I dare you to try to watch footage of and about that horrible, dreadful, wonderful day with dry eyes or a cold heart.

Here’s to the boys of Pointe du Hoc.  In the words of Stephen Spender, these are men who in their “lives fought for life and left the vivid air signed with [their] honor.” Continue reading

Math Suckage and Dave Ramsey

Dave RamseyDave Ramsey has added further evidence to the pile already in place attesting to how bad we are generally at math and probability.  Sadly, he’s no better than the mass of us.

Let me hasten to emphasize up-front that Dave has done some fabulous work by helping many, many people to get out of debt, stay out of debt, budget effectively, live frugally and save aggressively.  But when it comes to investing and to doing math, he is simply out of his depth.  Let’s start with the backstory. Continue reading

Senior Protection

Al DavisAs part of my Financial Advice: A Top Ten List yesterday, I emphasized the value that an advisor can provide by protecting seniors from making mistakes or being defrauded.  That (summary) point deserves some additional commentary.

As I noted, research confirms what most of us have seen among our families and friends.  Simply put, the ability to make effective financial decisions declines with age, often rapidly.  Continue reading

Financial Advice: A Top Ten List

Dilbert - Index FundsYesterday, while I was otherwise engaged, Josh Brown threw some fuel on the active v. passive fire:

“Active investors, in the meantime, really can’t say anything. There isn’t a single empirical datapoint backing up the idea that an investor is financially better off paying someone to pick their stocks for them. There are other considerations in favor of active managers – mostly emotional ones involving elbow-rubbing, fancy lunches and alerts – but we’ll leave those aside for now.”

Putting aside the actual substantive argument (my views, including why I advocate some active management, are here and here), advisors routinely tell me that if they used index funds, their clients wouldn’t need their services, consistent with the Dilbert cartoon above.  I disagree vehemently.  Here’s my top ten list of reasons why. Continue reading