Ask an Advisor: Why is my financial advisor charging 1%?
Why does a financial advisor receive a commission of 1% or more? It looks really tall. If my yield is only 4% (for example, in dividends), I’m giving away 25% of my yield, which is even worse in a bear market. How about charging 1% based on the increase in the value of the dividend income?
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It’s completely understandable to view investment returns as a measure of the value your financial advisor is providing. Most people want to make sure their money is being put to the best use.
I also won’t tell you that your advisor should charge 1% or more. There are many different types of financial advisors with many different types of commission arrangements. The right partnership for you will depend on your goals and circumstances.
That said, I encourage you to look beyond comparing your investment returns to your fees when considering whether your financial advisor is worth the cost. (This tool can help match you with an advisor who might meet your needs.)
Recent investment terms are not a good indicator of value
Ask an advisor, “I’m giving away 25% of my earnings.” Why does a financial advisor earn a 1% commission?
A good financial advisor will work to understand your investment goals and personal risk tolerance. He or she will help you build a portfolio that gives you a good chance of achieving those goals, based on the best research available.
But even the best financial advisors are at the whim of the market.
Most professional investors who try to beat the market actually underperform it over a period of time. And those who manage to outperform the market in one time period rarely manage to outperform it again in the next time period. For an in-depth illustration of this, see S&P Global’s recent “Persistence Scorecard.”
In other words, even professionals cannot beat the market consistently. This means that the right expectation is typically to target a portfolio that follows the market as closely as possible with a balance of risk (stocks) and stability (bonds) that matches your goals and risk tolerance.
And even when that portfolio offers the long-term returns you need, there will always be good years and bad years. Sometimes, your wallet will be very high. Sometimes, it will be down. This is how the market works.
Unless your financial advisor promises to outperform the market, which may actually be a good reason to reconsider the relationship, recent investment returns are often not a good indicator of their value.
The real value of a financial advisor
Good financial advisors provide value far beyond the percentage return in your investment accounts. Here are some services that a good consultant can provide:
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Take the time to understand your goals and values and help build a plan to achieve them.
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Determine how much you need to save and which accounts you should contribute to to reach your goals.
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Helping you understand exactly what you can afford and creating withdrawal strategies that maximize tax efficiency, so your money lasts as long as possible.
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Make sure you have the right insurance in place.
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Coordinate with an attorney to ensure that you have an estate plan that aligns with the rest of your financial plan.
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Guide you if you want to buy a house, make a charitable contribution, or help your child or grandchild through college.
And yes, they are there to create, implement and maintain an investment portfolio that should deliver the long-term returns needed to fund your larger goals. But even then, there’s a lot more than return to consider in terms of what your financial advisor is providing.
Quantifying the value of a financial advisor
Ask an advisor, “I’m giving away 25% of my earnings.” Why does a financial advisor earn a 1% commission?
A good financial advisor can increase net returns to, or even exceed, 3% per year over the long term, according to Vanguard research.
Most of that value comes from behavioral coaching, which means helping investors stay disciplined through the ups and downs of the market. That value won’t be easy to see from year to year, especially in years when the market is down. But in the long run, that consistency will go a long way for your bottom line.
Now, that doesn’t mean you should expect your portfolio to outperform market returns by 3% every year. Instead, 3% is a long-term number. It’s a comparison to how the average investor would perform on their own, not a comparison to market returns.
But it does mean that a good financial advisor usually provides significant value, even when your portfolio isn’t performing as well as you’d like.
How to Evaluate Your Financial Advisor
Evaluating financial advisors is challenging, especially when there aren’t easy numbers to use to measure their performance.
So what should you watch? Here are some key questions I would consider:
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Do they listen well?
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Does their advice align with your personal goals and values?
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Do you know your financial plan and how it is helping you reach your goals?
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Are they responsive and helpful when you have questions?
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Are they helping you with your entire financial situation and not just your investment portfolio?
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Are your investment returns in line with market returns, given your personal balance of risk and return?
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Are they proactive in helping you anticipate and plan for future needs?
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Do you trust them?
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Do you feel safer thanks to their guidance?
If you have any questions or concerns, I would take them to your financial advisor. This relationship depends on trust and communication. This is absolutely something you should be able to discuss.
What to do next
Remember that short-term returns are often not a good way to measure the value of your financial advisor. These returns are almost always out of our control, and a good financial advisor goes a long way beyond helping you achieve your goals.
Tips for investment and retirement planning
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If you have specific questions about your investment and retirement situation, a financial advisor can help. Finding a financial advisor doesn’t have to be difficult. SmartAsset’s free tool matches you with up to three vetted financial advisors serving your area, and you can interview your advisors at no cost to decide which one is right for you. If you’re ready to find an advisor who can help you reach your financial goals, get started now.
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As you plan for retirement, keep an eye on Social Security. Use SmartAsset’s Social Security Calculator to get an idea of what your retirement benefits might look like.
Matt Becker, CFP®, is a SmartAsset financial planning columnist, answering readers’ questions about personal finance and tax topics. Have a question you’d like an answer to? Please email [email protected] and your question may be answered in a future column.
Please note that Matt is not a SmartAdvisor Match platform participant and has been rewarded for this article.
Photo credit: ©iStock.com/Natee Meepian, ©iStock.com/AndreyPopov
The post Ask an Advisor: “I’m giving away 25% of my return.” Why does a financial advisor earn a 1% commission even in a bear market? first appeared on the SmartAsset Blog.
