What to look for in a Financial Advisor
It’s important to have a financial advisor who fits your circumstances. Selecting the right person or organization is a major life decision that can set the course for your future financial security. Imagine Provident didn’t exist. Here would be my list of essential steps that should be taken when evaluating a financial advisor.
One of the first questions to ask is if they follow the Fiduciary or suitability standard of care. The “Fiduciary” or “suitability” standard is the way to go. It requires the advisor to act in the client’s best interest when delivering financial advice. By contrast, the suitability standard means that the advisor is allowed to provide advice not necessarily in the client’s best interest, as long as it is suitable for them.
Next, it is important to check the credentials of the financial advisor. An advisor doesn’t need any training or experience to call themselves a financial advisor. Also, not all professional designations are created equal. According to the Financial Industry Regulatory Authority (FINRA), there are over 200 professional designations that fall into the category of financial advisor, some of which have rigorous requirements while others require as little as a single weekend of training. Several credible certifications to look out for are Chartered Financial Analyst (CFA), Certified Financial Planner (CFP®) and Chartered Financial Consultant (ChFC). The CFA designation focuses on investing and research. A candidate is required to complete 250 hours of study, have four years of professional experience and pass three rigorous tests. The CFP® is trained to help clients with their overall finances. They are required to have a college degree and several years of relevant experience. A CFP® candidate must also complete a training program and pass a rigorous and comprehensive examination. In order for a financial advisor to use the ChFC designation they must complete a training program that is equivalent to a year’s worth of college. They also need three years of experience.
It is vital to find an advisor with a shared investment philosophy that you understand. For example, is the financial advisor a big advocate of risk reduction at all costs even at the expense of capital appreciation? Are they constantly “swinging for the fences” as a high risk for high reward advisor? Or are they somewhere in the middle, where they will take calculated risks in order to maximize the reward? Understanding the advisor’s philosophy will relieve stress and panic during downturns in the market. A great question to ask an advisor is if they apply the same philosophy to their own portfolio.
Once you understand and feel comfortable with the investment philosophy, you need to understand how investments are chosen for your portfolio. For example, does the advisor sell all your current investments and buy their recommended investments on day one? Or do they strategically buy when an opportunity presents itself? Do they buy individual stocks and bonds? Mutual funds? ETF’s? What factors do they consider when tailoring your portfolio? For example, age, risk tolerance, goals, tax considerations?
How do you and the financial advisor measure success? A common way to measure success for stock investments is to compare your portfolio performance to a benchmark related, such as the S&P 500. If your portfolio is on average underperforming its benchmark over a multi-year period, it might be time to reassess your advisor.
Every financial advisor gets compensated for the services they provide. However, the fee structure can vary greatly from one organization to another. The most common fees are charged in the following manner: an hourly rate, a flat rate to complete a specific task, fee-only based on assets under management, or commission based. The fee-only structure provides ongoing management while avoiding conflicts of interest from commissioned products. Also, be sure to ask the advisor if the investments in client portfolios are charged a separate fee. For example, mutual funds charge an annual management fee in addition to the fee charged by the advisor.
Ask your advisor who provides custody services for their clients’ assets. Most financial advisors will employ a brokerage firm, an insurance company, or a bank to serve as custodian. This feature gives the client an added level of protection. Instead of giving your money directly to the advisor, you make a deposit with the custodian and the advisor manages it for you. Typically, the deposits are insured against default by the custodian. Also, all statements and confirmations are generated by the custodian, as well as all banking functions.
Finally, asking the advisor to describe their typical client is a good question. This will help you evaluate if the advisor has experience dealing with clients similar to you.
A good starting point in evaluating a financial advisor is by visiting the sec.gov website. There you can look up any disciplinary actions and check on the professional status of the financial advisor. You can also download their ADV filing which will answer many questions about the individual or the firm that they represent.
We like to think Provident checks all the right boxes. We act as fiduciaries with a staff that includes four CFAs and two CFPs. We regularly report our performance to clients against appropriate benchmarks. We are fee-only rather than selling commissioned products. Our clients enjoy the added protection of a reputable, national firm controlling their assets.
We appreciate referrals from our clients, but we may not be the right match for all your friends and family. For those cases, the above provides guidance as to what they should be looking for.
Dan Krstevski, CFP®