Advice Quicksand

I have a question for you.  How many people do you suppose end up getting worse financial results than they expected simply because they believed and followed an advisor who insisted they “could do better”?  For years, I’ve been speaking with my fellow advisors and getting the impression that many of them chase returns and ignore costs in their earnest attempts to help their clients “outperform”. When a peer-reviewed paper was released showing that many advisors do those things (and run concentrated portfolios, to boot), my suspicions were confirmed.  The cult of seeking outperformance has a legion of unsuspecting financial advisor followers that are collectively and unwittingly doing damage to the portfolios of the people they intend and purport to serve.  Often, it is the act of chasing ephemeral outperformance that causes the underperformance to occur.  If the answer to the first question is “lots”, then my follow up question is: what can I do about it?


The impression I have long had is that advisors want so very much to be of some use that they have convinced themselves that if they just try that much harder to identify a top-performing stock or fund, they’ll succeed in their attempt to do so.  If you’re working with an advisor, you need to understand that overconfidence is rampant – precisely because the investment industry has convinced so many advisors that their presumptive job description is to outperform benchmarks.  The thing is, in this paradigm, giving financial advice is a bit like getting out of quicksand.  More performance-seeking activity usually yields worse results when compared to less.  It seems that the desire to outperform is precisely what dooms many advisors to underperforming.


The widespread presumption is that a primary role of advisors is to outperform benchmarks. Evidence-based advisors seldom share that mindset.  Can you tell the difference?  I would say that the single most important role for an advisor is usually to get clients retired –and keep them retired – in a purposeful way.  Trying to “do better” almost always causes the investor to end up doing worse because the products that engage in the most audacious attempts to do better usually spend the most money along the way.  Since all investing is a zero-sum game in general and a negative sum game after costs are considered, the effort is worse than wasted – actually, it does more harm than good.  Advisors need to park their egos, reframe their value propositions, examine the evidence and advise accordingly.


As a rule, everyone should be seeking out cheaper products that adhere to a clear mandate in a single asset class featuring low turnover.  Investors should look for advisors that recommend accordingly.   Thanks to some intrepid research, we can even quantify the amount of harm being done.  According to academic Ken French, it’s 67 basis points – or about two thirds of 1%.  The data is from the U.S. and not surprisingly, the difference in cost between the average active product and the average passive product there is about 0.67%.  In other words, the evidence shows what one might have intuitively expected – investors get what they don’t pay for.


Advisors need to engage in purposeful self-examination and their clients need to insist on it if advisors won’t do it on their own.  Few people who understand the efficiency of capital markets would provide a job description that includes beating a benchmark. Is there a better way?  Specifically, is the process of advice-giving systematic and logical or unconscious and emotional?


My experience in speaking with dozens of advisors over the years is that most muddle through and do things essentially the same way they were taught when they entered the business.  Since many entered the business at a time when ‘outperformance’ was a critical component of the value proposition used by most advisors, it should come as no surprise that a significant number of advisors continue to act as though picking winners is a salient part of their job description.  You need to test your advisor to see if she or he has subscribed to this presumptive, but discredited value proposition.  Your account is at risk.


We have a crisis on our hands.  Presently, it seems that most advisors are stuck in an outdated paradigm that does more to fatten the wallets of high-cost product providers than it does to help their clients reach financial independence.  If your advisor spends most of his or her time talking about past performance without doing projections about what it’ll take to get you retired (based not only on reasonable return assumptions, but also knocking those assumptions down by a suitable amount to account for the cost of products and the cost of advice), then you need to ‘have a talk’.  It’s accountability time.  Here are some questions you should consider asking:


  • What is the total cost to me? Specifically, what is the cost of advice and what is the cost of products?  Please quantify both in dollar terms and in percentage terms.
  • Are you trying to ‘beat the market’? Why or why not?
  • What is the success rate of people who make this attempt? You can look up the term SPIVA for recent reports on just how unlikely this really is.  Hint: the actual numbers are extremely low.
  • How much money am I likely to have when I retire? How much will I need?   Do the return assumptions you are using take the factors in the first question into account?


Investors need to show a more active concern for the quality of advice they’re getting.

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