There is a real battle on right now for new clients for financial advisors – the battleground is at the Generation XY level. Let’s bust through some of the bullshit, and discover who actually needs an advisor, and what fees are really worth.
Firstly, we need to acknowledge that everyone is playing around with the benchmark in order to appear to offer better value. In order to show how valuable they are to you they opt to compare themselves with Mutual Funds, or with “high fee” advisors. Show me a benchmark where these new firms put themselves up against a simple ETF strategy and it would be a very different picture painted.Now, don’t get me wrong, there are still slimeballs selling heavily loaded Mutual Funds to the oblivious, so educating people about cheaper options is still required, and what’s more, there is nothing wrong with paying good money for good advice. But what are you really paying for, and how much are you really paying?
There are two real camps to look at in this battle – the Robo Advisor and the Gen XY Planner. On the subject of Robo Advisors – my take on them is that they are very viable investment solutions, but they very much are NOT an Advisor, because they look only at your asset allocation, not holistic goals. Proper Financial Planning factor in many diverse subjects, including:
- Insurance
- Investments
- Tax Strategy
- College Savings
- Retirement Planning
- Employee Benefits
- Trusts and Estates
As an Advisor, you might be on call to help a client decide whether they should pick between investing $20,000 in a fund or paying off a car loan. You might discuss how much to allocate into retirement vs into a 529 plan, you might discuss the virtues of paying down a mortgage early vs buying an investment property for cash flows.
In some ways a Robo Advisor might offer more sophisticated allocations, however this only occurs within a very narrow set of parameters. They are best compared with a target date fund, such as offered by Vanguard.
So when do you need a Robo Advisor and when do you need a Real Advisor?
You need a Robo Advisor once you have your stuff together. They are just a fund of funds. The real advisor, you pretty much need from middle school onwards, as there is a desperate lack of financial education in the US. However, both are parasitic, and if you engage them at the wrong time you’ll take longer to reach your goal.
Real Advisors come in two forms, Fee Only, or Commission Based (including Fee Based) a Fee Only Advisor/Planner is compensated only by the client, whereas the Commission based Advisor is compensated by third parties. This compensation method creates a conflict of interest and advice cannot be considered truly impartial. However, Fee Only Advisors are getting up to mischief too, and it is highlighted in the XY age bracket. By mischief, I don’t mean anything illegal, but I would propose that they are charging too much.
Fee Only advice is worth it!
I am not for a moment suggesting that Fee Only Advisors are charging too much for what their knowledge is worth. Most Fee Only Advisors are highly trained professionals, however, I think we should consider how much the advice is worth in relation to cost. Let’s recap: a Robo Advisor offers zero advice for its 0.25% fee, but can offer investment upside over more expensive funds. Real advisors can help you decide on paying down your mortgage vs opening a hot dog stand, or creating an estate plan that will protect your assets from excessive taxation. But you are talking about a customer with little to no wealth here!
When we go back to the original argument about excessive fees, let’s consider the worst of the worst, some horrible dinosaur who somehow manages to sell you front loaded funds (5.75% upfront penalty), within a 1.5% AUM managed account.
That’s horrendous right?
Let’s say Bob has $10,000 to invest, in your first year he is sold the ‘fund du jour’ for the full amount. On day 1 his wealth drops to $9,425 because of that load fee, and then, assuming no appreciation he has to pay out another $141.38 in AUM fees for the year. This really is one of the worst case ‘advisor’ situations, and his total cost on investing his money is $716.38 for the year.
If you saw that happen you’d (hopefully) slap some sense into the guy and send him to a Fee Only Planner.
The problem is that Bob only has $10,000 to invest, because he is just starting out in life…. the line you get from the Fee Only Planner is something like:
‘We aren’t like your parents’ advisor, we make planning affordable’.
I often see
‘firms charging AUM fees of up to 1.5%, which on 1M is $15,000 per year, we think this is unfair, so charge a simple, affordable monthly fee.’
Interestingly, the monthly retainer for the XY focused firms often starts out with a bump, then runs at about $100-200 per month. The initial bump is to ensure that if they build a comprehensive financial plan you don’t run off and leave them having paid just 1 month of money. If we take the lower end of this we could be looking at $500-$1500 for the plan, followed by the monthly retainer, at best that makes it $1700 per year.
So, should Bob go with the sleazeball selling him front loaded funds, and pay out 7.16% in year one (1.5% subsequent years) or should he pay 17% in year one, and 12% subsequent years? The fact of the matter is that Bob might well need some financial education, but if he is paying 17% (or more) per year to get it then he is never going to be able to achieve his goals.
I think this battle of the XY market is being quite unfair to them as clients, unfortunately Robo Advisors are capitalizing on this and marketing themselves as a solution, but they don’t actually offer anything other than an investment vehicle. Having said that, it might well be that until you reach a certain tipping point in terms of wealth you don’t need anything more than an efficient investment vehicle.
The emergence of the hourly fee or monthly retained advisor has piggybacked onto the Fee Only pricing model, and in doing so has allowed them to charge fees that are disproportionately high, I’d suggest if you think you are ready for a financial planner you do some simple math first:
- Add up all of your assets.
- Deduct from this your liabilities
- Divide into this the total first year fees of your planner/advisor.
If your fees are anything above 1-1.5% then you should ask yourself is the advice really ‘worth it’ now. For some it may be, for example, a young Doctor or Lawyer may have a negative net worth due to student loans, but a large cash flow from their new salary. For such a case the monthly cost of retaining a skilled professional is negligible.
You have to bootstrap your finances
If you are starting out in life financially you can’t afford to toss money away, even for good advice. Advisors can tell you how to structure your wealth, but if you don’t have any the impact and savings of doing so are outweighed by the cost of their time. While the advice from Fee Only planner is often excellent, so is a hotel room in the Four Seasons, but that doesn’t mean you should live in the hotel 365 days a year rather than rent or buy your own place. If you want to get to the point where you can afford to offload your financial decisions, and structure your future, you need to put the effort into learning.
I’d suggest joining Bogleheads.org it is a forum that focuses on low cost index investing, or come along to the Saverocity Finance Forums to explore aspects of your finances that you want to learn more about, and once you are in good standing, consider bringing in a fee only planner to take the workload from you.
You know this is right up my alley and can talk about it for hours…
I generally agree with your views. You should read today’s WSJ article by Jason Zweig “The Rise of Ultracheap Financial Advisers”. I don’t like the trend out there. I am lowering my fees by 0.05% across the board as a preemptive measure. But raising my minimum annual fee even more, clearly not aiming for the XY market.
You need to figure out who is your market, who you enjoy working for and can provide the best value. It takes some time to figure this out…
If no bear market in the (near) horizon I am afraid the robo advisors will be formidable competitors! It is true that many financial advisers have been overcharging and this coming competition will knock out the ” let me ‘manage your portfolio’ for 1% a year and send you some nice looking reports” out…or I hope so.
There are many ways you can work in this business. It’s fun. I am getting a little bored with it actually…enter TBB. As far as money factor goes….it is Insane LOL
You bring up a good point about the minimums, I was going to bring that up too as a way that fees and percentages can be manipulated, but as you say, that isn’t an XY issue so I left it out for brevity (in my posts…)
It’s funny how when you become good at something and have all your systems in place that the job can get boring, but I am sure that you will find ways to keep busy. I am keen to explore more probono work, so once things get going I’d likely want to work with different types of customer, I particularly like the idea of supporting returning veterans.
It’s not just about the fee. I wouldn’t want advice from anyone that finds it worth their time to advise me. Anyone good enough to provide me with real value worth paying for has too high an opportunity cost to waste time on me. Just like I wouldn’t get my taxes done by a dude in the mall, regardless of price..
That’s the future value of automation. I get really good advice from top experts I could not otherwise afford when I do my taxes (TurboTax, TaxCut, etc).
Do you pay for advice from a live travel agent when booking roundtrip airline tickets? No, the web has squeezed that human process. Travel agents still make good sense for some trips, mostly tailored/customized experiences that tend towards the upper end of travel.
I agree with the analogy to travel and automated advice – if all you need is a ticket then get it online, and get it cheap through the automated bidding systems out there. But compare that with someone who instead wants to move to Italy for work, rather than just fly there – then you have issues of overseas reporting, SSI, FATCA, FBAR AND a flight… you still need the flight, but you have so many components that a more high touch approach fits in.
Again though, if you are a student moving there to teach English and have no assets, then its a waste of time.
Ultimately everything can be done by yourself, but even now I outsource some things and not others. EG I outsource the Server Admin here, but I do theme stuff myself. The turbo tax comment is fair too, I actually use Turbo Tax myself for some businesses, and accountants for others.
I have set up enough of them to know how to do it, but if something is profitable enough to carry the fee of another set of eyes I’ll pay it. However, if I start a new venture, I wouldn’t start out by buying an office building, hiring a CPA and a lawyer and other support groups, because that would require upfront expense that would stop that venture from moving forward. Instead I’d bring them in later as needed, even though it may cost more then to fix errors, the company will have enough to support that.
I think in later life that may change, as all ventures will have greater bankroll to support them properly from the start.
Lost interest after seeing a reference on equating “top experts” in taxation to “Turbo Tax, TaxCut, etc.) LOL
Matt: You do NOT waste your time with do it yourself type people. Most of the consumers belong in this segment and will never change. They feel like they can do better “saving” the fees they pay someone. It’s like “travel hackers”. Some do very well of course. Nothing wrong with that. It’s just that you will do much better if you concentrate on the validator and/or delegator types.
Needless to say, the VAST majority of people in this “travel hacking” hobby belong in the do it yourself segment. It is the way it is. Always looking for a “deal” lol.
It is not just about the fee. It is what value do you get with that fee. We in this industry have had it so good for so long. The new competition and pricing pressure is kicking us in the balls to wake us up from our self induced comfortable way of doing business. The guys charging 1% doing “investment management” (doing some trades once a quarter and sending shiny reports) are going to be toast. Of course, scum selling what their master is telling them while burying insanely confiscatory fees and humongous commissions will always be around. Because life is not fair and they get away with it…
I am starting to get angry so I will stop and continue reading other Feedly blogs now 🙂
I totally agree with “It is not just about the fee. It is what value do you get with that fee.” and I do believe the knowledge the fee buys is worth it. My point in this post is that it is too high a price to pay for many in the XY market, and paying it will stop them achieving their goals.
EG – a 28 year old with student debt and no retirement account – he needs a budget, if he pays $100 per month out of his paycheck to be told that he is going to find it very hard to find ways to save in that budget.
EG – a 35 year old with $5M in assets – she needs investment advice (allocation from Robo is fine, but what about location?) she needs Trust advice, perhaps turbo loading college fund advice, gifting, estate advice etc… and paying out $100- $1000 per month for good advice is affordable, because of the cash flows generated by the asset base.
I tend to be a control freak but I do outsource many things. Most important has been Sam who has been cutting my lawn for the past 20 years 🙂
What you are referring to has always been a problem in this industry. When I first started my goal was to help everyone and tinkered with fees/formats a lot. But what most of us find out eventually that it is a bitch being able to stay in business while trying to help the segment of the “28 year old” you are referring to. We love the 35 year old you are referring to by the way. It’s a fact and not a very honorable fact when we should be helping more of the 28 year olds who NEED it more! Doing probono work is a way for us to reconcile with ourselves.
Doing the monthly debiting with the more tech savvy XY market is a new way of broadening the market. Also doing hourly consultations too. The Garrett Planning Network is a way to do this hourly consultations and they help start you out. But it is a tough way to make a living as you need to build up the client base and have them come back for annual reviews, etc.
It’s complicated. My point was you just don’t want to bother with people who think they can do it themselves to save the “fee” 🙂
Good points.
I was discussing recently with a relative who was asking me about my value prop as a firm. He is savvy, and very much a DIYer, he actually still picks stocks… He was angling towards how I could provide him with Alpha.
I realized during that conversation that this wasn’t the client for me, ALTHOUGH there is something to be said for taking on troublemaker cases and reprogramming them (if the upside is worth it) but yes, I am not seeking to provide Alpha, if I wanted to sell that I’d head on over to Morgan Stanley.
Alpha is not provided, it is sold.
So I fall into the Gen Y (we are called Millennials now) and don’t see myself needing a retained financial advisor. It would be nice to get a check up and suggestions on occasion but I wouldn’t want to pay a retainer for that. Where I see myself needing someone would be initially handling an inheritance or other large set of acquired assets. In a situation like this I feel like I would need someone to help navigate tax and legal codes. What should I expect or look out for in a Financial Advisor in a situation like that?
You raise a great point, such important changes are certainly worth the investment in a proper advisor. I’d suggest keeping an eye on overall cost still, EG if your inheritance is $50,000, and you could keep all of it vs lose half (for whatever hairbrained reason) you could consider anything that the advisor saves you from the $25K profit.
What to look out for here:
IF the inheritance skyrockets you into high net worth, it might be worth retaining someone. If it is a non lifechanging sum, but still decent, then an hourly/project based planner would be best. You can expect to pay up to $250 per hour for this, and should get a good grasp of total hours before you engage the planner (even get a fixed fee).
Criteria: Fee Only, there is no reason why you shouldn’t be able to find a CFP who has NAPFA registration. You could get a planner who is starting out, who has passed the CFP and joined NAPFA but cannot put either on their resumes (it takes 3 years experience to do so) which could provide a more affordable option, with good education, but perhaps less experience.
Avoid banks and insurance companies like the plague.
I agree with a lot of your post, but it misses the point when you calculate the monthly retainer as a percentage of assets under management. Saying that fiancial planning fees need to be less than 1.5% of aum is like saying paying for cable is only a good deal if the bill represents less than a certain percentage of your home value – they simply aren’y related. The value of financial planning has nothing to do with a clients investment accounts, which is why we charge for it seperately from an AUM fee. We help clients figure out what they want out of life, and align their finances to support those goals so they can live their great life.
You are stuck in the old-school with your thinking on what services and value financial planners provide. The reason we change differently (monthly fees) is becausd the value we offer is different than is use to be. Consumers should be willing to pay $100-$200 a month only if they get that level of value from their planner, and there is no need to use an aum based rule of thimb.
I think you guys provide an excellent, highly skilled and professional service. I just think that the cost of such a service negates it’s potential impact to a large portion of your target market, to the point where you can be part of the problem.
Eg – I’d advise people to cut cable out in favor of Hulu/Netflix and save money, I’d do that in a blog post. If I think saving $50-$75 a month makes that much difference, how can I advocate paying an advisor double that to ‘help save money’?
I think Alan’s firm is on the right track finding a mutually beneficial way of working with the XY younger clients.
Sometimes, the benefits of having an advisor on your side takes YEARS to materialize! Showing the value of financial planning and disassociating it from investment management has been REALLY hard! I think we can agree on that advisors charging 1% for just asset management are going to be hurting. And salesmen posing as “advisors” will likely always be there raping consumers who don’t know better.
Hey Alan, what’s up with the beard look man? It does make you older though 🙂 Nice job with the XY venture!.
Perhaps I should clarify my position, I see a fit in the market for a firm like Alan’s also, however I wonder if the bar for it might be too low. I think that there is validity in charging the reasonable fees that a firm like they, or Garrett might do, and I think there is fantastic advice available.
However, I wonder if at some point, the costs of the advice take too much from the ability to implement the advice – hence me saying a figure like 1-1.5% AUM works because if you are charging $100 or so an hour, if a guy has $100K in assets that has less impact, vs a person with say, student debt, or who can’t afford to fully fund an IRA – that is an opportunity cost then, pay an advisor $1200 per year or put it in an IRA and forget about it.
My issue above is not about saving the fees, or suggesting that people can’t get into complicated circumstances.
The challenge is the sorts of people who are good enough to be worth fees and navigate complicated questions are actually really valuable, and aren’t going to be finding themselves working for me. The folks who [and no doubt there are exceptions, but overall based on what I’ve seen over the past couple of decades] are available to me aren’t people who will do an especially good job for me.
“Here’s when you need a financial adviser” only gets you halfway there because then you’re faced with the set of individuals you have access to at the value of the portfolio they’d be working on. Most of the folks good enough to want to work with have the ability to be and indeed should be working with larger portfolios. Those that don’t aren’t usually much better than turbotax and can be materially worse.
Great discussion.
As Buzz mentions, there is confusion between what is offered and what is received. That is my point here behind stating a Robo Advisor giving no real advice for their circa 0.25% fee, they aren’t sitting down with you running Internal Rates of Return for setting up your next business, or discussing the risks and rewards of funneling money into annuities or trusts in order to help increase college financial aid for your kids.
Frankly, a person with strong cashflows from salary/business or some decent assets (in relation to age) can make good use of an advisor.
As I mentioned earlier with regard to Alan, his firm DOES offer a great service and way to get advice, I just think the floor should be raised somewhat on assets, but only to something around a $100K net worth in that case.
Someone with $500K at 1% would pay the advisor $5000 per year, frankly for that you could get a decent advisor (starting out) as the workload is stacked at the front, in terms of collating a comprehensive picture of current assets/liabilities and goals.
The argument against retainers either fixed fee or by % AUM is that after the initial load the advisor is milking the client somewhat… again value must be shown throughout.
Most consumers confuse Investment Management with Financial Planning. We in the industry are primarily responsible for this as many of us are getting paid by “Assets Under Management”. But I do stress at every opportunity that the fees they pay me are for comprehensive advice (including tax planning and preparation….hey I throw in some travel/miles related advice in my fee lol). Many charlatans will charge you 1% “fees” and do a horrible job of “investing” your money. That needs to go away and the new competitors will hopefully accelerate that!
If you think you are paying for alpha for the fees you might as well go give your money away to one of these “smart” guys and never call me as you are likely to get burned one day.
This is an article I came across this morning which elaborates on my main point:
http://www.huffingtonpost.com/james-c-gibson/3-big-differences-between_b_5732108.html?utm_hp_ref=tw