10 Things Financial Advisers Won't Say {Part I}

An excerpt from a great article over at Market Watch.com  about financial advisers that for the most part are not individual or independent RIAs.    This  is a very informative article.  It is long, but I think important.  I may have more to say about this at a later date but for now parts 1-5 are here.  The rest, 6-10, will be published Monday.  {Excerpt with my highlights.}

1. “We’re your biggest advocate, except when we’re not.”

A consumer who seeks help from one of the nation’s 300,000-plus financial advisers is probably hoping to find (what else?) financial advice...... For years, consumer groups and rival industry factions have battled.......over whether that “advice” should be required to be in the client’s best interest (the so-called fiduciary standard) or merely “suitable,” based on factors like age and risk tolerance.

Under current rules, advisers can adhere to either one of those ethical standards or both, depending on how clients pay for their services. The SEC has said it wants to hold all advisers to the tougher best-interest standard. Most consumer groups favor such a change, arguing that the looser “suitability” standard encourages advisers to steer clients into costlier products that’ll earn them fatter commissions. “They call themselves advisers, but they are functionally sales reps,” says Knut Rostad, founder of the Institute for the Fiduciary Standard, an investor-advocacy group. Advisers who favor the ostensibly looser standard say they have investors’ best interests at heart. One key contention: While the tougher ethical standard might eliminate some conflicts of interest, it would also boost costs by creating extra compliance work and additional legal liability for advisers..... “The fiduciary standard disenfranchises the middle market,” says Terry Headley, a financial adviser in La Vista, Neb., and the group’s former president.  

2. “What we charge is all over the map.”

Just as many investors have trouble determining which advice they can rely on, many find it difficult to figure out how much they’re being charged......

What investors pay varies widely, according to Mike Sha, chief executive of SigFig, a website that helps investors track fees and performance. At MarketWatch’s request, SigFig divided the investors that sign on to its service into cohorts ranked from those that pay the least to those that pay the most. The bottom fourth of its customers paid fees amounting to 0.47% of their savings each year, while the top fourth paid 1.39% — nearly three times as much. “A lot of people are paying thousands of dollars a year and have no idea what the fees are,” says Sha.

To be sure, some investors who pay more are likely receiving higher levels of service. Wealthy investors also typically are charged a smaller percentage of their assets, because economies of scale mean fixed costs don’t loom as large. Wealthy investors in Bank of America Merrill Lynch’s “Personal Advisor” program, for instance, pay fees of 2% on their first million dollars invested. But that falls to 1.1% for balances between $5 million and $10 million, according to regulatory filings. Merrill declined to comment on its pricing.

How can ordinary investors determine whether they’re paying too much? Starting in 2011, the SEC required firms to publish a document known as the “Form ADV Part II”; the information from that form enables investors to look up many advisers’ list prices on the SEC’s website, making it easier to comparison-shop....... 

3. “Your future looks bright, according to our software.”

The numbers convey the kind of certainty everyone wants to hear: You have a 98% chance of reaching your retirement goal, a 95% chance of paying your kids’ college bills — even a 94% chance of affording that summer house you’ve been eyeing. So it’s little wonder that financial plans that include these kinds of statistics — typically generated by software that combines inputs like age and savings rates with historical market returns — have become a favorite with advisers and clients alike.....

But critics warn that investors can put too much stock in these calculations, which are typically based on mathematical models known as “Monte Carlo” simulations—that’s Monte Carlo, as in the European gambling haven. The models are designed to calculate probabilities based on thousands of possible market scenarios. But equations are only as good as their inputs. .....

.....The take-away, according to some financial pros, is that while plans can be a useful tool, investors shouldn’t overlook the fact that someday they might lose their job or, for that matter, decide they’d rather sail around the world — scenarios that could of course render a preset plan obsolete. 

4. “There’s no easy way to judge our stock-picking performance...”

For investing pros at hedge funds, endowments and mutual funds, success is defined by performance.....While investing acumen has long been part of advisers’ sales pitch, substantiating the claim can be tough. First off, unlike mutual-fund managers, who can measure their performance against clearly defined benchmarks (the way, say, Gross’s Pimco Total Return Fund is compared with the Barclays U.S. Aggregate Bond Index), advisers’ mandates are more nebulous. Their job is to look after their clients’ overall well-being rather than some discrete segment of the securities markets. To that end, advisers say they set a variety of goals with each client, and clients can judge their performance based on how successfully they meet those goals. Furthermore, brokerages say they are constantly developing new tools to help investors track and measure individual portfolio balances. But because financial advisers work with so many different types of clients, it’s difficult to determine whether or not an adviser can “beat the market,” according to those in the industry.........

5. “...But we’re tops at raking in the dough.”

Investors cheered in January when Morgan Stanley’s Global Wealth Management group posted $221 million in pretax profit.....One factor highlighted in the earnings report: Average annualized revenue per global representative jumped from $790,000 to $824,000. Clients might imagine this closely watched industry metric, known as “production,” indicates how much money the company’s 16,000-strong army of financial advisers made for them. Rather, it simply measures fees and commissions earned from them.....

......To be sure, clients and advisers often make money at the same time. When an adviser picks winning investments, clients’ account balances and the adviser’s production increase in tandem. And sometimes investors can lower their bill by switching from a fee-based to a commission-based plan (many advisers will work either way). While commissions tend to mean investors pay more up front, in the long run they can work out to be cheaper.

Under either system, however, insiders say the fastest and surest way for advisers to boost their production numbers is simply to sign up more and wealthier clients — a dynamic that can emphasize salesmanship over investing prowess. “The advisers who gather assets boost production,” says Scott Smith, an analyst at brokerage-industry researcher Cerulli Associates. “They are the ones who get ahead” in the industry........

Part II will be published on Monday.

Link:  Market Watch: 10 Things Financial Advisers Won't Say.