Another Financial Advisor Question

[Scuba]

Yes, thank you. That was my point. Interesting read.

I think the discussion here is maybe unnecessarily agitated because of a couple of non-obvious false premises. I include myself in being guilty of this:

First, that an FA's sole purpose is to run the money. Several of those who use FAs have, I think, tried to draw attention to this fallacy, but with limited success.

Second, that all FAs are stock pickers or use stock picker mutual funds. I think this is largely true but certainly not universal. FAs approved to sell DFA funds, for example, are going to be well towards the passive side if not completely there. The Vanguard piece also argues for FAs doing passive investing, though we don't know how many have bought the argument.
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So, trying to avoid those two issues I'll try to restate my opinion on FAs:

If an FA does nothing but run the client's money and believes in stock picking, that is a bad deal for the client.

If an FA provides value to the client outside of just running the money, then that is an entirely reasonable thing for the client to pay for.

If an FA utilizes a stock picking strategy, he/she is statistically likely to cost the customer money versus a similar strategy (AA, etc.) that is passive. This extra cost (I have seen estimates of about 2-3%) is an additional cost of using that particular FA.

So the client simply needs to evaluate the net cost of the FA, including wrap fees and long-term investment performance, then decide whether the net cost is equal to or less than the value provided.

This is a much more balanced perspective that I agree with. One question though - where does the 2-3% estimate come from? If an FA is managing a portfolio that is mostly individual stocks, what costs are there other than the % of AUM fee and trading costs, if any?

 

[Ready]

This is a much more balanced perspective that I agree with. One question though - where does the 2-3% estimate come from? If an FA is managing a portfolio that is mostly individual stocks, what costs are there other than the % of AUM fee and trading costs, if any?

Hopefully not many of us are seeing 2-3%. But the newbies that come to this site from Edward Jones do learn that they pay a 1% or higher AUM fee, plus a wrap fee, plus front and back end loads on funds, plus 12B-1 fees, and other assorted fees. In fact their fee schedule is multiple pages long. Ameriprise is about the same.

 

[Ready]

Sorry, I misspoke.

The Edward Jones fee schedule is 42 pages long:

https://www.edwardjones.com/images/LGL-8944-A_Final.pdf

Makes for some good bedtime reading, but may give you nightmares if you have an account with them and hadn't previously read through it to fully understand it.

 

[Huston55]

Several of the positive comments about FAs remind me that many of us here (including me) focus on an FA's investment performance, which is virtually guaranteed to underperform a passive portfolio. But they do more than investments, particularly for younger folks needing help with college savings, life insurance, etc. Long story short: Maybe 20 years ago I was shooting in a pistol league and got to talking with one of the guys who had just come from a meeting with his Ameriprise FA. I tried to diplomatically point out that Ameriprise was maybe an unnecessarily expensive firm to choose. His response was: "I know that. But if it was not for this guy I wouldn't have anything." Point taken. That conversation permanently changed my thinking about FAs.

But ... they can be expensive. I am teaching an Adult Ed intro investing course next quarter. Here is one of the slides:

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Comments welcome.

Love this slide!

Drives home the ‘relative’ cost of fees (FA or otherwise). That “[-]small[/-]” 1% fee is 25% of one’s annual W/D if taking 4%/yr. A good instructor could interactively discuss this with the class for 20-30 mins.

 

[Huston55]

Finally, here is a very worthwhile way to spend a half hour: https://www.top1000funds.com/featured-homepage-posts/2015/12/11/investors-from-the-moon-fama/

I’ve previously watched this video & it’s very instructional to hear Fama answer questions which, ironically, are primarily from a group of FAs.

 

[aja8888]

Sorry, I misspoke.

The Edward Jones fee schedule is 42 pages long:

https://www.edwardjones.com/images/LGL-8944-A_Final.pdf

Makes for some good bedtime reading, but may give you nightmares if you have an account with them and hadn't previously read through it to fully understand it.

No wonder those FA's send boxes of chocolates to clients.

My retired friend who has all his "stuff" with Ameriprise gets a dozen golf balls at Christmas each year. (and he has a few mil under management with his "guy")

 

[Huston55]

No wonder those FA's send boxes of chocolates to clients.

My retired friend who has all his "stuff" with Ameriprise gets a dozen golf balls at Christmas each year. (and he has a few mil under management with his "guy")

($3,000,000*0.01)/12=$2,500/ball.

Wouldn’t want to lose one of those

 

[OldShooter]

This is a much more balanced perspective that I agree with. One question though - where does the 2-3% estimate come from? If an FA is managing a portfolio that is mostly individual stocks, what costs are there other than the % of AUM fee and trading costs, if any?

A lotta numbers being thrown around here ...

Vanguard has a 3% number in that piece that @LOL! referenced. I did not study the piece enough to figure out how they derived it.

The 2-3% number that I threw out is an estimate (I have read several places) of the cost of using a stock picking mutual fund: (a) management fee, +(b) trading costs, +(c) bid/ask spreads, and +(d) costs due to front runners, etc. making the market move against the mutual fund trading desk and spreads open up as they build or liquidate a position. Note the FA wrap fee is not included. The first cost (a) may have improved in the last year or so as these guys are slitting each others' throats on fees. I recently read that the average stock picker is now charging only 75bps vs 150bps rough average in Olden Times. The last cost (d) is the toughest to estimate and potentially the biggest. (The bigger the mutual fund, the bigger a meaningful position must be and thus the harder it will be for the trading desk to build or liquidate.)

An FA who is directly picking stocks (a somewhat rare bird in my experience) has almost none of these costs. Probably just the bid/ask spread as the quantity of stock is tiny and in most cases customers who pay wrap fees are not also charged trading costs. YMMV of course, but you are right in pointing out that his/her situation is much better. As soon as he/she buys a mutual fund, though, that basket of costs is added to his/her AUM fee and counts against the customer's return on that position.

Edit: One other point -- a stock picker might turn his portfolio over 100-250% where a passive fund might turn 5-15%, so when the FA uses a passive fund it is not just the fund fees that go down. Everything else is much less as well. Not free. But less.

 

[SecondCor521]

So the client simply needs to evaluate the net cost of the FA, including wrap fees and long-term investment performance, then decide whether the net cost is equal to or less than the value provided.

I think this is hard to do correctly. Already in this thread I made the mistake of counting dividends twice in the performance of VOO. Robbie included cap gains from his IRA, and was using a calculator that used average monthly prices to figure performance over 10 months.

That doesn't even get into how to allocate those unrealized gains (to which year? when to include/exclude them?) and the embedded tax cost associated with them.

It doesn't include adjusting for risk, which is waaay harder math than VOO dividends.

Then there's how to pick a proper benchmark (someone upthread provided some ideas, but it could get more complicated) and if you're mixing and matching benchmarks, tracking that performance.

....

I think people like me who prefer DIY are people who are interested and would learn and read on this stuff anyway.

To use an analogy, I know I could learn how to maintain my car, and I believe it would be cheaper to do so over the long run. I'd learn, make mistakes, collect the right tools over time, and eventually be able to do fancy stuff like swap transmissions and stuff.

But I don't like to do that kind of work, and I'm happy to outsource it to my local car shop. I don't use the dealer, and I've found a small shop that I trust. They make a profit, and I'm glad they do because they'll be there for me over time. But I also think they're not ripping me off. Although I honestly don't know for sure, they could rip me off and I really wouldn't know.

If there were people on this board who like working on their cars, I'd understand that and be fine with it, and agree that they were probably doing it cheaper and better than me. I'd probably also suspect that they might do the work partially because they like it and the saving money part is just a nice bonus.

I'd like to think that kind of person - a gearhead if you don't mind the term - and I could disagree and still be friends.

...

I'm socially un-talented, so I just wanted to add that I like RobbieB personally - in fact I like nearly everyone on this entire site - and have no problems with anyone who uses an FA or doesn't. I'd like to think we can all discuss it reasonably and come to our own conclusions after a review of the data that's relevant to our situation. I didn't mean to hurt anyone's feelings or criticize anyone. Cheers!

 

[OldShooter]

I think this is hard to do correctly.

Agreed. I retract the word "simply."

Having worked on my own cars my whole life (until I got old and fat and lazy anyway) and having raced sports cars for 15 years I will say that, for me, investing is simpler and much less work! And the instruction books are easier reads, too.

 

[SecondCor521]

Agreed. I retract the word "simply."

Having worked on my own cars my whole life (until I got old and fat and lazy anyway) and having raced sports cars for 15 years I will say that, for me, investing is simpler and much less work! And the instruction books are easier reads, too.

I wasn't meaning to pick on your wording; I was quoting you as the starting point to my monologue-in-a-post.

I interpreted your "simply" as a synonym for "just" and agree with you in principle. I think it's easy to make mistakes is all.

I have one car and I am very utilitarian about it. I'm a "get me from point A to point B safely, reliably, cheaply and comfortably."

 

[Scuba]

A lotta numbers being thrown around here ...

Vanguard has a 3% number in that piece that @LOL! referenced. I did not study the piece enough to figure out how they derived it.

The 2-3% number that I threw out is an estimate (I have read several places) of the cost of using a stock picking mutual fund: (a) management fee, +(b) trading costs, +(c) bid/ask spreads, and +(d) costs due to front runners, etc. making the market move against the mutual fund trading desk and spreads open up as they build or liquidate a position. Note the FA wrap fee is not included. The first cost (a) may have improved in the last year or so as these guys are slitting each others' throats on fees. I recently read that the average stock picker is now charging only 75bps vs 150bps rough average in Olden Times. The last cost (d) is the toughest to estimate and potentially the biggest. (The bigger the mutual fund, the bigger a meaningful position must be and thus the harder it will be for the trading desk to build or liquidate.)

An FA who is directly picking stocks (a somewhat rare bird in my experience) has almost none of these costs. Probably just the bid/ask spread as the quantity of stock is tiny and in most cases customers who pay wrap fees are not also charged trading costs. YMMV of course, but you are right in pointing out that his/her situation is much better. As soon as he/she buys a mutual fund, though, that basket of costs is added to his/her AUM fee and counts against the customer's return on that position.

Edit: One other point -- a stock picker might turn his portfolio over 100-250% where a passive fund might turn 5-15%, so when the FA uses a passive fund it is not just the fund fees that go down. Everything else is much less as well. Not free. But less.

Got it, thanks. Was just wondering if I had missed some fees, but based on this, I haven't.

 

[ERD50]

Have you had a chance to review your after-tax returns? It sure seems those ST & LTCG would be a drag on performance, but maybe I'm missing something.

-ERD50

Yeah I did. Turns out that I misread the first time and quoted the gains for the whole 3 accounts (which includes the IRA) My taxable cap gain stands at 75 grand and it's all long term. I have very little unrealized cap losses (big surprise eh) to offset this. Looks like 60 grand in dividends and 75 cap gain, about the same as last year so no surprises.

The 75 grand is about 5%

OK thanks. So if LTCG represent 5% of portfolio under management, then @ 15% tax rate that's about a 0.75% hit against the portfolio compared to an ETF with near zero cap gains (though if selling occurs to rebalance or fund expenses, there will be some cap gains there as well).

So we can add 0.75% to a 1% management fee - that's a rather steep climb for the manager to meet, let alone beat compared to the broad based index ETF/fund.

Not impossible of course, but it just seems the odds are against the average investor finding an FA that can do that consistently.

edit/add: I just noticed the divs - those appear to be ~ 4%; which is ~ 2x what the SPY pays out. So @ 15%, tax rate, that's another 0.3% extra tax hit, pushing the fee & tax drag up to over 2%.

-ERD50

 

[Ready]

OK thanks. So if LTCG represent 5% of portfolio under management, then @ 15% tax rate that's about a 0.75% hit against the portfolio compared to an ETF with near zero cap gains (though if selling occurs to rebalance or fund expenses, there will be some cap gains there as well).

So we can add 0.75% to a 1% management fee - that's a rather steep climb for the manager to meet, let alone beat compared to the broad based index ETF/fund.

Not impossible of course, but it just seems the odds are against the average investor finding an FA that can do that consistently.

edit/add: I just noticed the divs - those appear to be ~ 4%; which is ~ 2x what the SPY pays out. So @ 15%, tax rate, that's another 0.3% extra tax hit, pushing the fee & tax drag up to over 2%.

-ERD50

If the FA is picking individual stocks it is possible the portfolio is taking on more risk to seek higher returns. In the current bull market it may not be unreasonable to see higher returns than an index. The question I have is how will this go during a bear market? Will the FA strategy change?

 

[CoolRich59]

Op could take time and read any number of well-written books that are suggested @ Bogleheads. Many of us have read them and understand that it is a great way to receive information and enable us to apply it to our investments.

https://www.bogleheads.org/wiki/Books:_recommendations_and_reviews

Picked up 'The Little Book of Common Sense Investing' yesterday.

 

[GravitySucks]

Picked up 'The Little Book of Common Sense Investing' yesterday.

Good to see this thread hasn't drifted so far from the original that you're still participating.

My two cents:
I don't use an FA, but I might be tempted to if I didn't have my FIDO rep and daughter to bounce things off of. I also don't use a plumber for simple tasks like replacing a toilet or an electrician to add an outlet.
I doubt anyone would begrudge someone from using a plumber or electrician. I don't see much difference in someone using an FA to perform a task they're not comfortable doing.

 

[OldShooter]

Picked up 'The Little Book of Common Sense Investing' yesterday.

Here is another worthwhile one:
The Coffeehouse Investor by Bill Schultheis

I met Bill on trip surveying FAs for a nonprofit I'm connected with. He is the real deal; no BS.

You can sample here: http://www.coffeehouseinvestor.com/

Quite timely, the book also includes a recipe for pumpkin pie.

 

[RobbieB]

Let's not forget you need dough to live on either. I spend all my dividends and more. If I had funds that paid less dividends I would be selling shares and making cap gains.

 

[LOL!]

Let's not forget you need dough to live on either. I spend all my dividends and more. If I had funds that paid less dividends I would be selling shares and making cap gains.

Nevertheless, dividends and realized capital gains can be quite a bit different on one's tax return. I'll just give my personal situation to show how this might be so:

I have significant carryover capital losses from 2008-2009 that I have to use up still by offsetting realized capital gains. If I get $30,000 in dividends each year, then my Adjusted Gross Income goes up by $30,000. If I get $30,000 in capital gains each year, then all $30,000 is offset by previous carryover losses and my AGI does not go up at all. This has consequences for me because I can have lots of income to spend while keeping the tax rate on my qualified dividend income at 0%.

Furthermore, in order to get $30,000 of capital gains, I would also get back much more in return of capital which is also not taxed [again, it was taxed years ago]. Thus, I can keep taxes close to zero while spending more than $100,000 a year. If I spent $100K+ of dividends that would not be the case.

 

[CoolRich59]

Good to see this thread hasn't drifted so far from the original that you're still participating.

This is a great thread (if I do say so myself ), and I have really found it valuable reading the different points of view.

While I appreciated the comments from folks who find value in using a FA or other professional, I did decide to fire my FA last week and am in the process of moving my $$ to Vanguard.

Here is another worthwhile one:
The Coffeehouse Investor by Bill Schultheis

I met Bill on trip surveying FAs for a nonprofit I'm connected with. He is the real deal; no BS.

You can sample here: http://www.coffeehouseinvestor.com/

Quite timely, the book also includes a recipe for pumpkin pie.

Thanks. This is on my list too.

I'm starting with 'The Little Book of Common Sense Investing', and then plan on reading 'The Coffeehouse Investor', 'The Bogleheads' Guide to Investing', and 'The Gone Fishin' Portfolio'.

 

[mickeyd]

That “small” 1% fee is 25% of one’s annual W/D if taking 4%/yr.

...and income taxes take another big chunk (25%). You are lucky to get half of it to spend.

 

[Happyras]

I am just a glutton for punishment, but I just finished a review with a Personal Capital advisor (pitch). They are compelling in their data, but I believe they really help the most with behavioral coaching and sector allocation. Our current allocation is heavily weighted in VG funds, and primarily VWENX, VWIAX and VGWAX (new fund). They make an argument for sector balance, and alternative investing while maintaining a 30% allocation to foreign ETFs. I have to consider their approach as it appears to provide a lower std dev of risk, while providing a higher return than our current allocation. Since our current funds have an overall expense ratio of 23 bp, their management fee of 79 bp (plus about 5 bp of ETF fees) seems to be a good trade off for a net higher return with lower risk. Now I just need to figure out if I can do the same myself and save the fee, or if its worth their fee to get the free ipad!

Can anyone comment on their use of the Personal Capital targeted allocation model and their management?

 

[CoolRich59]

Can anyone comment on their use of the Personal Capital targeted allocation model and their management?

I can only comment on their aggressive sales tactics.

I really like their site and tools, but I made the mistake of giving them my phone number when they said they needed it to notify me if there was a site hack, data breach, etc. That started weekly calls with sales pitches for their FA services.

I was able to put an end to the calls by changing the number in my profile to a non-working number.

 

[OldShooter]

I am just a glutton for punishment, but I just finished a review with a Personal Capital advisor (pitch). They are compelling in their data, but I believe they really help the most with behavioral coaching and sector allocation. Our current allocation is heavily weighted in VG funds, and primarily VWENX, VWIAX and VGWAX (new fund). They make an argument for sector balance, and alternative investing while maintaining a 30% allocation to foreign ETFs. I have to consider their approach as it appears to provide a lower std dev of risk, while providing a higher return than our current allocation. Since our current funds have an overall expense ratio of 23 bp, their management fee of 79 bp (plus about 5 bp of ETF fees) seems to be a good trade off for a net higher return with lower risk. Now I just need to figure out if I can do the same myself and save the fee, or if its worth their fee to get the free ipad!

Can anyone comment on their use of the Personal Capital targeted allocation model and their management?

I don't know the company, but the 30% international comes right out of here: http://vanguard.com/pdf/ISGGEB.pdf See the graph on page 5.

Re sector balance, a total US stock fund does it for me. Anything other than buying all sectors is the top of the slippery slope to stock picking. Sectors are as unpredictable as individual stocks, though not as volatile.

 

[Happyras]

Buying the total US market is going to heavily weight you in Health, Tech, and Finance. Their approach is the maintain a balance across all sectors, using tactical weighting and rebalancing to maintain 10% in each sector as one sector outperforms. I know this would be some work to do, but they obviously robo adjust monthly.

They maintain a 10% allocation to alternatives in ETF's, majority REITS, Gold, and Energy/Food commodities. They used Hedged foreign bond ETF's for that allocation, and US bond ETF's for the balance.