I think one of the hardest issues to tackle with respect to investing is where to go for advice. I’ve long struggled with how to guide people on this issue since what needs saying is often hard to hear or believe. Unless you’ve spent years in the industry AND worked in many capacities across the various silos and business units, it’s truly impossible to fully understand how the sausage is made and therefore which sausage is worth eating. The industry cranks out a LOT of sausage and very little of it is worth consuming, so I want to try and help save readers from at least indigestion, if not terminal food poisoning.
The thing about this industry’s sausage, to keep with the metaphor, is that it always looks so tasty, filling, and nutritious. Unfortunately, the vast majority of it is downright toxic and should be treated the same as biohazard. The industry is all about pumping out facts, figures, studies, opinions, strategies and using very smart, well-spoken, impeccably dressed people to deliver it. They know your hot buttons and push them incessantly to get you to buy or sell whatever they want you to buy or sell. So let’s get down to those individuals who actually deliver the messaging…
Let’s start with all those chief strategists, chief economists, and overall financial gurus we see paraded on CNBC and the other financial news outlets. Did you know that most of them aren’t actual economists (not that being an economist helps anyone predict the future either)? If they have a bachelor’s degree in economics they are leading the pack. Most don’t even have that. They are where they are because they are good communicators and they don’t question the fact that practically all their advice is pulled directly from their keesters. The results of their advice? Just what you’d expect…horrible. Studies that track the predictions of the Wall Street chief strategists have shown that their predictions are mostly wrong. Larry Swedroe, director of research of the BAM Alliance, follows the “sure thing” predictions of these gurus and finds that they are only right about 25% of the time – and that’s when discussing sure things!! Better to throw darts or flip a coin, not take the advice of chief strategists or anointed gurus.
How about that portfolio manager who spoke at the last client event? “It was the portfolio manager…in person. Didn’t s/he sound really smart?” Guess what…they all sound really smart and they are all really convincing. It’s amazingly easy to sound smart when you speak a totally different language, and it’s amazing how “convincing” someone can be when you give them the title Portfolio Manager. But the undisclosed truth is that many of these so-called portfolio managers don’t actually manage any money! They are paid to travel around with the sales folks and sound smart while the real portfolio managers are kept behind closed doors at headquarters and do the actual work of underperforming (see my post: Active vs. Passive Investing). There is simply not enough time in the day to manage a typical investment strategy AND travel around and tell people about it. There isn’t a single portfolio manager who would ever meet with you who actually manages the portfolio they are talking about. Don’t be scammed.
What about all the stuff firms send around about various investment strategies? The first thing you need to find out is who is publishing it and why. If it’s internal research supporting their own strategy, you should always discard it as biased. While it might be true, most likely it’s the result of overly mined data that has been flogged until it tells the story they want it to tell. And if it’s coming from one of the big shot Wall Street firms, you can be assured it’s part of a marketing effort to sell a product so they can get commissions, ongoing asset management fees, or both. The entire industry is geared around creating sales pitches about various investment theses that tap into either our fears or our greed, supported by compelling back-tests and analyses, but after a few years of live performance investors realize the whole idea was bunk and now they’re out fees, commissions, and relative performance. If they’re lucky they also have a tax bill when they need to switch to the next great thing since even bad strategies can go up over time (just not as much as everything else). Don’t be hoodwinked.
“Yes, but I trust my advisor. S/he has been in the business for years and has lots of designations. Plus, they couldn’t work at [insert name brand Wall Street firm here] if they weren’t well-vetted and above board.” Hmmm, really? Here’s the truth. Barriers to entry for “advisors” in this industry are ridiculously low. Licensing only requires regulatory and procedural knowledge and very little investment knowledge. Most firms’ in-house training is sales training, nothing more.
Those letters after one’s name? There are 175 different investment designations according to FINRA and a high number of them are from online self-study programs that one can complete in a weekend. If it’s not the CFA designation for investing or the CFP designation for financial planning, pay it no mind (you can research investment advisor designations here).
And oversight? The SEC is overworked, under-staffed, under-budgeted, and simply doesn’t have the resources to adequately supervise all firms and advisors. Audits of firms are few and far between, and sometimes don’t come at all at the SEC level. Also, the auditors usually don’t have the training, knowledge, or experience to identify wrongdoing even if they came across it except in the most obvious circumstances. Heck, Bernie Madoff avoided scrutiny for years even with folks writing letters to the SEC about his Ponzi scheme! At the state level things can be even worse since every state supervises investment firms differently. And a recent study by three university professors found there is an uncomfortably high occurrence of misconduct and fraud in the advisory industry and many of those found guilty of something continue to work in the industry, often at the same firm.
So don’t trust your advisor because they sound smart, are likeable, have a bunch of letters after their name, work at a big firm, or have been around a long time. Those things can all be good, of course, but look brokers up in brokercheck and investment advisors up on the SEC site to see if they’ve had to disclose anything. Ask them tough, probing questions about their education, experience, and knowledge. And definitely don’t let them wine and dine you to buy your appreciation of them.
Finally, take the recommendations of friends, family, and other professionals, but do your own vetting. What might have worked for them may not work for you. Finding a capable advisor requires effort, but this is your life savings we’re talking about so you need to do the up front work!
For those needing more specific guidance on choosing an advisor/advisory firm, I’ve written a shortpaper you should find useful. It tells you what to look for and why, and even gives you one-page framework at the end to use in your search so you don’t forget anything. Happy hunting!