What makes a $130,000 car so much better than a $40,000 car? Why is a home in San Francisco worth more than a comparably-built house in Houston? Why can't our daughter's abstract paintings command the price of a Jasper Johns or a Picasso?
Value is a tough concept to define. It's a matter of personal taste and satisfaction. People choose how they want to spend their money, and find value from their decisions.
What investors expect from working with a financial advisor is evolving.
The financial services industry has gravitated away from commissions on products or transactions. More common today are fees based on assets under management. With fees distanced from day-to-day investment activity and less tied to individual investment decisions, it's natural for clients to question what they're paying for.
There's a temptation to want to define the value of an advisor as an annualized, net-of-fees increase in the value of one's portfolio. But as we'll discuss shortly, some of the most meaningful contributions an advisor can make aren't recurring on an annual basis.
Recent research1 suggests that there are at least three dimensions to answering the question of what's the value of working with a financial advisor.
Vanguard, a large provider of mutual funds and other financial services, has done research on the value of best practices in wealth management. The Vanguard research2 suggests that advisors can add perhaps as much as 3% in portfolio returns over a more naïve approach to investing. Examples follow:
Asset allocation – Yours was a great employer, but all that company stock you acquired over the years hasn't delivered the returns you expected. Are your investments diversified across asset classes? Are you sitting on too much cash because bonds are too difficult to understand? Are you prey to "invest in what you know" and a home country orientation--you've loaded up on your company's stock and other U.S. equities? If you're not unhappy with at least some part of your portfolio, you may not be sufficiently diversified. And when some markets hit the inevitable bumps in the investment road, you may not have the appropriate cushion from non-correlated assets.
Rebalancing – We all know it's important to rebalance portfolios from time to time, but face it--it's hard to sell off those winners and reinvest the proceeds in "losers." Yet that's what helps in the long run, and a third-party, like an advisor, can get you over that emotional hurdle.
Asset location – It may make sense to put tax-inefficient investments like bonds in a tax-deferred account like an IRA while investing after-tax dollars in tax-efficient investments that might generate more capital gains than taxable interest. Make your head spin a bit? A good advisor can help decide which part of your portfolio should sit in which kind of account.
Investment portfolios stand on their own only for those who fixate on score keeping. The rest of us realize that our portfolios are in service to desired financial goals: retirement, bequests to those we love or charities we care about, education funding, or simply helping us sleep at night.
Working with an advisor should increase the odds that an investor will achieve those goals.
What does the advisor do? Quantifying those goals in a robust financial plan is a good start. She or he may help the client with balancing savings and spending during "accumulation" years. The advisor should address issues that might derail achievement of the plan such as premature death or disability, or the need for long-term care. There are smart ways to give to charity and to leave assets to heirs.
How will you optimize the draw-down of your assets when you're in retirement? Might it make sense to spend down part of your large IRA while you're in low tax years following retirement up to age 70-1/2? You can preserve more of your after-tax funds and reduce Required Minimum Distributions that might be larger than needed?
An advisor can help model the most tax-effective spending strategy and work with the client to meet goals efficiently and effectively.
The value of advice, research suggests, is not purely quantitative. What's it worth to you to have someone you trust keeping you from making a stupid mistake? It's challenging to measure the value of staying invested when you're tempted to bail. Two or three years later, you may be relieved your advisor held your hand during the market turbulence and you stayed invested through the recovery.
Vanguard's research found that among the investors they surveyed, the emotional aspects they found in an advisory relationship (e.g., trusting the advisor, having a personal connection with the advisor, knowing that the advisor is monitoring the plan and portfolio, etc.) represented nearly half of the total value assigned by the respondents.
When we make transactions in the market place, we exchange our money for items or experiences of value. These are often one-off situations, and buyer's remorse may or may not occur.
When you consider what's involved in identifying someone with whom you'll work to invest your assets and attempt to achieve your financial goals, it's important to consider all the dimensions of a potential relationship. Finding an advisor you can trust, who will help increase the odds of meeting your financial objectives and manage your portfolio wisely—that can be challenging, but that's what most clients want.
If you're considering working with a wealth manager, we'd be happy to have a conversation to discuss if we can provide the value you're seeking. Click the button below to schedule a call.
1Assessing the Value of Advice, Vanguard Research, September 2019. Accessed via https://investor.vanguard.com/investing/investment-research.
Disclaimer: The information provided here is general and intended as educational in nature. It is not intended nor should it be considered as tax, accounting, or legal advice. Investec Wealth Strategies and its advisors do not provide tax, accounting, or legal advice. We recommend you seek the counsel of your attorney, accountant or other qualified tax advisor concerning your situation.