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Advice on Financial Advisors
Finding the right partner for your investing journey
Welcome to this week’s edition of Cape May Wealth Weekly. If you’re new here, subscribe to ensure you receive my next piece in your inbox. If you want to read more of my posts, check out my archive!
In the cold, rational world of investing, one would think that affluent investors decide on a wealth advisor with analytical rigor: Find the best, most accessible firm offering high-quality services and products, as well as a good personal fit - and either stay with them forever, or depart once they feel like they can get better value elsewhere.
In reality, things look very different: Clients choose a financial advisor that contacts them, not the other way around (or at best are introduced by a mutual friend). They are offered products that may or may not be the best choice for them. And lastly, they stick around even if they might get better performance and/or lower fees elsewhere.
As the democratization of financial markets continues, many argue that financial advisors are a dying breed. While I might be biased, I think the opposite is true: A great financial advisor can offer value far in excess of any fee they might charge. But for this to be the case, you need to choose your advisor and their firm wisely.
Let me help you find the right one for you, and give you a few pieces of advice on how to maximize the benefit from your financial advisor.
Understanding the wealth management advisory model …
To understand how to best work with financial advisors, it’s helpful to understand their business model.
Wealth advisors try to build long-term client relationships from which they can earn recurring, mostly AUM-based, fees. Typically, this is related to either investment-related services, such as managing a portfolio, or in the case of more advisory-focused firms, a type of “supervisory fee” which might come with additional services such as consolidated reporting.
While there are also other revenue sources, such as transaction fees or brokerage fees (i.e. helping a client source a mortgage), wealth management firms focus on generating their revenues through fees on “long-term, fee-based assets”. After all, it’s a great business: If you charge long-term fees on a PE fund that you sold to a client, there is usually little work for what could be a 10+ year revenue stream. Even in the case of managed accounts for liquid assets, clients tend to stick around as long as there is no significant underperformance - especially if they trust their financial advisor. And while financial advisors like to tell the story of the hard work of their portfolio management team, my experience has been that they only look at a client portfolio when the client requests information.
Lastly, it’s important to know that their remuneration model is usually “eat what you kill”: Advisors receive a modest base salary, but substantial upside from a share of the (long-term oriented) fees that they bring in. The cut varies, ranging from 20% for someone employed at a large firm to 90-100% for a self-employed financial advisor.
… and how it affects what your financial advisor is selling to you
Why should you as a client care about this? Because it’s this business model that drives how most traditional private banks and wealth managers try to generate revenue from you:
First, how you get in contact with a specific financial advisor to begin with. Given the “eat what you kill” compensation model, financial advisors search the internet and media to find the next big liquidity event before another bank (or advisor in their firm) does. While some advisors centralize sourcing to allocate it to the advisor that might best fit the client needs, many do not - it’s first come, first serve, even when another advisor might be a better fit. In more than one case, clients ended up with a firm they liked, but an advisor they didn’t get along with.
Second, how it influences what your advisor tries to sell you. As mentioned above, financial advisors want to sell products from which they can generate predictable, high-margin returns. Ideally, by selling you a Vermögensverwaltungsmandat: Charging a percentage fee based on managed assets, advisors can earn substantial revenues from a portfolio which might cause them little to no work after the initial setup. Those revenues also grow with the historical upward trend of financial assets (which admittedly helps partly alignment of interests). While most financial advisors I know work hard for their clients, I’ve also seen my share of absolutely shameless pitches: One advisor once proudly told me that he sells their clients one fund, talks to them once a year, and charges 1% per year - on top of product fees.
It’s important for me to highlight again that most financial advisors that I know really have their client’s best interest at heart. However, this best interest might be hard to make a reality if the business model doesn’t allow for it. Let me tell you what bothers me the most:
For me, the most integral part of working with a client is the beginning of the client relationship. There is the regulatory part, of course - what assets does the client already have, what is their investment experience, which goals do they want to achieve. Equally important, however, is getting to know their goals and needs as a person, outside of their investment portfolio, and taking the time to gently guide them through their initial journey of moving for example from being an entrepreneur to being an investor.
Unfortunately, taking time, and keeping a client’s best interest in mind, is to a degree opposing the aforementioned business models: Most financial advisors don’t make money on an hourly fee, but only when they sell you a product, and accordingly, can only spend so much time on this integral onboarding phase. Unfortunately, many end up rushing clients through this phase - rather than take the necessary time and diligence. It’s sad to say how surprised some of my clients at Cape May Wealth are when I tell them I want to make sure first that I’m the right advisor for them, and that I can actually help them, before selling them something.
Three ways to improve your financial advisor experience
For individuals of a certain net worth, there might be few opportunities to get by entirely without financial advisors. And as I said before, a good financial advisor can be of tremendous value to a client, often far in excess of the fee that they charge. So what can you do to improve your experience when it comes to working with your financial advisor? Let me give you three pieces of advice:
First, don’t underestimate personal fit.
While advisors like to tell you otherwise, most of the service offering in the wealth management industry has become significantly democratized, and thus, commodized. Accordingly, personal fit, i.e. how well you get along with your financial advisor, is something that you shouldn’t underestimate. You need to be able to trust them, and if you dread every call you have with them, there is a good chance your experience (and thus your investing activity) might be sub-optimal.
So when you’re choosing a financial advisor, make sure to have a large selection of advisors to chose from: Different firms, large and small, from the independent advisor to the small regional Sparkasse to the Swiss Private Bank to the American Investment Bank. And if you already work with a firm, but are unhappy with the financial advisor, don’t hesitate to ask for someone else to become your point person. A moment of awkwardness is better than a lifetime of unhappiness, especially in something as important as personal finance.
Second, know what you want.
Especially in the affluent and ultra-high net worth segment, banks and financial advisors, to the most part, should be able to provide you with access to any asset class you. However, if you just give them free reign, don’t be surprised by an opinionated view: In my experience, US banks like PE and US growth stocks, while European banks like gold and European dividend stocks. Accordingly, requesting a portfolio proposal from three different wealth managers without giving them guidance is likely to give you three similar, but perhaps also very different pitches.
So when you start talking to wealth managers and banks, make sure to take the time first to think about what you want: About your asset class preferences, whether you want to include or exclude illiquid assets, how much active management there should be. It can still be helpful to give the wealth advisor a degree of free reign (after all, they might have more investing experience than you), but if you give them no guidance whatsoever, expect to receive a proposal that is likely the highest-margin, lowest-effort portfolio the advisor can show you.
Third, make sure to get your money’s worth.
As I mentioned before, wealth management has become substantially democratized, and thus commoditized, over the last years. You don’t need to work with a human broker to buy your ETF anymore, and you can even invest in asset classes such as private equity without ever talking to a person.
Nevertheless, it can make sense to work with financial advisors as an affluent individual. If you didn’t make your money as an investor but rather as an entrepreneur, there is a good chance that your time is better spent generating return through entrepreneurial activities (i.e. venture investing or starting another company) rather than trying to pick the best stocks. At the very least, they can help you safeguard your investments - especially in times of crisis, I’d personally prefer to work with a well-capitalized private bank or financial advisor I can call rather than have to deal with a web support form of an online broker.
However, in doing so, it’s crucial to make sure that the fee you pay is fair for the service you receive. One frequent issue I see is around ETF portfolios: Clients decide on their own which index funds they want to invest in, but the financial advisors - despite taking no role in selecting the funds nor supervising them - demand brokerage and/or “supervisory” fees of >0,50% p.a. You can’t expect an advisor to deliver services for free, but especially for commoditized services, the fee should be reasonable - in the case of the ETF, for example, any fee in excess of 0,20% p.a. would be too expensive for me. Don’t let them justify any higher price through apparent supervision or management, or even worse, “because they helped you”: A professional financial advisor should understand that they need to earn your assets, and understand - or even recommend - that you move your funds elsewhere where it might be cheaper and/or of higher quality.
And in this regard, it’s good to refer to my advice from the first measure: Talk to as many banks as possible. It’s entirely justified to compare prices (despite attempts to make them hard to understand), and equally reasonable to divide your assets in a way that minimizes ongoing fees. Once again, take the humble index fund: You might’ve picked it as a low-cost investment alternative - so don’t make the mistake and then make up that cost advantage by overpaying on advisor fees. Over the long term, your returns will thank you.
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