How to Pick a Financial Advisor

This is the White Coat Investor Podcast, Financial Boot Camp, your fast track to financial success.

Let's talk about how to choose a financial advisor.

The truth is, the vast majority of doctors, I estimate something like 80%, but Bill Bernstein would tell you 99% of doctors need a good financial advisor. When I say good financial advisor, I'm talking about somebody who gives good advice at a fair price. That's what you're looking for: good advice at a fair price.

The vast majority of people who call themselves financial advisors really aren't what I consider true financial advisors. They are product salespeople, and they might be selling insurance products, they might be selling mutual funds, or they might be selling some other type of investment. That's not a financial advisor. That is a salesperson masquerading as a financial advisor. The reason they're able to do that is because there is no legal meaning of the term financial advisor.

In general, when you're looking for a financial advisor, you're looking for two services. One is financial planning. The other is investment management. They're often bundled together, but they do not have to be. Either way, if that's what you're looking for, you don't want to be paying somebody to sell you products because you're not looking to buy products. You're looking for a plan. You're looking for somebody to manage your assets. You're not just looking for someone to sell you something.

The first thing to look into is how they get paid. You can just ask them that, or you can look it up on their required disclosure documents. The best financial advisors tend to put their fees right on their website, and you can look it up very easily, know exactly what you're going to pay, and how you're going to pay them. You're looking for fee-only advice. Fee-only means you pay them like you pay your attorney, like you pay your doctor, like you pay your accountant. They do a service, and you pay them a fee.

Now imagine you're going to see your doctor, and they didn't actually get paid for giving you advice. They only got paid a commission, a percentage of whatever medication they prescribed for you. So they prescribed you Zoloft, and that costs, you know, 30 bucks a month. Well, then they get paid $5 a month, indefinitely while you're on the Zoloft. The problem with that sort of model, as you can imagine, is the conflicts of interest. Maybe if they put you on Celexa, they'd get a $10 a month commission instead of a $5 a month commission on Zoloft. Now you can see the problem with getting that biased advice that comes from not being fee-only.

They might be completely commission-based. That's how a lot of insurance agents work. They just get paid a commission when they sell you a policy. Or they might be what's called fee-based, which means they get paid fees and commissions. Just recognize that fee-only is not the same thing as fee-based.

You also want an advisor that is a fiduciary. Fiduciary is a word that basically means Hippocratic. It's somebody who is going to do the right thing for you, even if it's not necessarily the right thing for their pocketbook. Basically, they're putting your needs first.

You want an advisor that intends to act as a fiduciary, is legally required to act as a fiduciary, and actually does act as a fiduciary because the vast majority of advisors are going to tell you they're going to be your fiduciary. You want somebody where you see ongoing evidence that they are actually doing so.

You also want them to believe in a reasonable investing philosophy. There are all kinds of people out there that invest in all kinds of different ways. The academic literature is pretty clear about the best way to invest, at least as far as investing in publicly traded stocks and bonds. The way to do that is to keep your costs low, be broadly diversified, and don't be jumping in and out of the market all the time.

What does that mean? That usually means investing in low-cost, broadly diversified index funds. If that is not a huge chunk of the portfolio that this advisor is going to put your money into, you probably need to move on to a different advisor.

People who are picking stocks, chasing performance, or trying to time the market are probably best avoided when you're looking for someone to help you with your investment management.

You can also ask for help figuring out what services you actually need, and then ask if they provide those services. That can be very helpful. You don't necessarily just want somebody to manage investments for you. You might want advice on planning your taxes, making projections for retirement, analyzing your insurance, doing estate planning, or helping you with your cash flow, which might be the most important aspect of what a good financial planner can help you with.

Understand what services an advisor offers, and see if that actually aligns with the services you need. If you have no idea what services you need, that makes it very difficult. But if you can at least write down a handful of what you really need done, that will help you find the person who can offer those services.

Ask them what their typical client relationship looks like, how often they're going to be meeting with you, what happens between the meetings, and find out who exactly you're going to be working with. If it's not the owner of the firm, maybe you ought to talk to the planner you'll be working with before committing to hiring them.

Some advisory companies tend to specialize, whether it's in business owners, tech workers, or physicians, in the case of a lot of the financial advisory companies we work with. The truth is, 95% of it is the same for everybody, but it's nice to have someone who has a few clients like you so they understand the issues that are unique to you.

You wouldn't believe how many accountants out there don't seem to know anything about the Backdoor Roth IRA process, which seems so common among the White Coat Investor community, but actually isn't very common once you get away from physicians and other high-income earners. So you want someone who has clients that are somewhat like you.

You may also want to ask them how they approach taxes. Do they coordinate with a CPA or other type of accountant or enrolled agent? If you're going to have a taxable account that they'll be managing, ask about things like tax-loss harvesting, Roth conversion strategies, and how they plan to withdraw from the portfolio. Make sure they're doing that in a way that is tax savvy.

It can help to ask them to walk you through a sample financial plan. If they're a financial planner and they make financial plans for other people all the time, they should be able to bring up an anonymized plan and help you see what you would be getting. You want to actually see the deliverable. What does this written financial plan they're helping you create actually look like when they're done with it?

Talk to them about how they measure success for their clients. If they start talking about beating the market and things like that, that's kind of a turnoff. You want somebody who's actually talking about your goals and is focused on helping you achieve those goals while taking the least amount of risk possible.

Ask them what they do in a bad market. Will they be contacting you more often? How are they going to communicate with you when stocks are dropping like crazy? This is going to happen. There's a bear market, on average, every three years. What should you expect as far as support from them when the next bear market hits?

Ask them about what changes, if anything, they will make during the bear market so you understand their approach and so you can see what their temperament and discipline are like.

Ask them about their conflicts of interest. Ask if there's any revenue-sharing agreements, proprietary products, or insurance commissions. If they say they have no conflicts whatsoever, they either don't understand the question or aren't being honest. Even a fee-only, hourly financial planner has some financial conflicts of interest. They're incentivized to take longer to do your work than it might otherwise take because they get paid by the hour. Everybody who's getting paid has some sort of conflict of interest and ought to be comfortable discussing it with you very openly.
You can ask about their credentials. The most common credential for a financial planner is Certified Financial Planner, or CFP. There are a few other high-level designations, like CFA, ChFC, or CPA, but the vast majority of letters after the name of a financial advisor represent the equivalent of weekend courses.

Just because they have 20 letters after their name doesn't mean all that much unless some of those letters represent a significant commitment to the profession. While credentials matter, their behavior actually matters more. It's entirely possible for somebody with fewer credentials to actually be a better financial advisor. But I'd like to see some of the basics done, showing that they're going to be committed to the profession long enough to be providing you advice and service for many years.

You can ask questions like, "What would make this a bad fit for me?" Not every client is right for every advisor, and there ought to be some clients that your advisor is just not the right fit for. They should be able to talk to you about that.

You should also talk about the end. Any financial advisory relationship does not last forever, and you should know how it's going to break up from the beginning. Are there any contracts, lockups, or exit fees? Who holds custody of the assets?

You want flexibility, control, and the ability to move on to another advisor if this isn't working out very well. You don't want somebody who makes it hard to leave. You want somebody who feels complimented when you go to them and say, "I think I know enough now to do this myself." They should feel like that's a compliment and help you take over on your own rather than fighting you every step of the way to keep you as a client so you keep paying them fees.

Choosing a financial advisor can be tricky. Getting referrals from people you trust, such as going to the White Coat Investor's Financial Advisor Recommended List, is a great place to start your due diligence process.

The White Coat Investor Podcast is for your entertainment and information only and should not be considered financial, legal, tax, or investment advice. Investing involves risk, including the possible loss of principal. You should consult the appropriate professional for specific advice relating to your situation.