Does the benefit of working with a financial advisor exceed their fee?
Every relationship with a service professional should start with this fundamental question.
Without a doubt, there's a segment of do-it-yourselfers that possess the knowledge, time, interest, and discipline to successfully manage their own investments and personal finances at a high level.
Regardless of if you fit into this segment or not, there are always risks associated with the DIY approach.
For some projects, there may be little to no risk, like replacing sod or fixing a few fence posts. If a mistake is made, you might be out a few hundred dollars.
If a mistake is made in managing your finances, the costs could be massive. A $25,000 mistake at the age of 50 turns into a ~$370,000 mistake by the time you're 85*, which could be the difference between leaving a financial legacy and leaving nothing.
Copious research shows people struggle to objectively manage their personal finances (see the reasons for why here, here, and here). As a result, substantial amounts of money are left on the table each year due to the absence of professional help.
According to a Vanguard study, financial advisors can add ~3% in net returns each year.
Though this number is widely debated and varies from person to person, a great financial advisor should absolutely provide multiples of value relative to the fee they charge.
Working with a financial advisor also has non-financial benefits like:
Having the peace of mind knowing ongoing decisions are being made in concert with a professional that’s taken the time to understand your hopes, dreams, aspirations, spending needs, specific tax situation, estate plan, etc.
Finding comfort knowing a professional is helping you delineate between reliable, data-driven, and fundamentally-sound financial information and much of the noise associated with today's mainstream media.
Having someone else be partly responsible for the burden of investing on behalf of yourself and your family.
In addition, the best advisors provide value through:
1. Financial Planning
Absent of a carefully-crafted and detailed financial plan, how will you understand if you’re on track?
Do you need to work three more years or can you retire tomorrow? Will you be able to sustain the lifestyle you've become accustomed to in retirement?
Quantifying your goals, aspirations, and overall cost of living provides clarity and confidence. A personalized financial plan is a helpful management tool for making sound financial decisions.
2. Tax Planning
The best advisors add massive value by designing a process tailored to lower your lifetime tax liability. Does a Roth conversion make sense? Should you donate appreciated stock instead of cash? Which account should your bonds be held in?
After all, it's not about how much you make, it’s about how much you keep.
3. Portfolio Construction
The best advisors have likely collaborated with finance's best and brightest, from portfolio managers to industry academics.
Collectively, this brain trust has spent decades researching and considering the best, most cost-effective ways to construct and manage portfolios.
The construction of your portfolio has a dramatic long-term impact on the growth and preservation of your wealth.
4. Behavioral Management
The single biggest portfolio-related problem is almost always investor behavior.
It's extremely difficult to be objective about your own money, and in fact, there are over 115 different human biases that can prevent rational investment decision making.
A financial advisor can provide objectivity and unbiased opinions during times of market stress or exuberance.
The best advisors ensure your investment strategy is strictly rules-based and data-driven so that feelings and other biases do not enter into the equation.
Not only do the best advisors continually monitor your investments to confirm your portfolio is doing what it's designed to, but they’re constantly monitoring economic developments, policy changes, tax changes, and other investment-related developments.
Does the recent legislation affect you? What impact will globally-disruptive events have on your portfolio?
The best advisors ensure changes to your portfolio are always made in response to a change in your circumstances and never from an emotional response to market conditions.
6. A Deep Network
The best advisors work with clients that have similar needs, leading to collaborative relationships with other professionals serving comparable needs. If your advisor is a fiduciary, they have no incentive (financial or otherwise) to develop relationships with anyone but the best.
If you need a basic estate plan, the best advisors know just the attorney to take care of it.
If you need a complicated estate plan, they know that attorney, too.
If you need an affordable accountant that won’t nickel and dime you, they know the accountant.
If you’re selling a business, they know the people you need to talk to.
This list is not exhaustive. Financial advisors can provide value in other ways that tend to be personal and specific to each client's situation.
Unless you have an explicit strategy for each item listed above, there's a high likelihood you would benefit from collaborating with a financial advisor.
*Assumes rate of return of 8%/year.