Few investors hire advisers for the right reasons. They think the purpose of a financial adviser is to secure very high returns, either through picking the top managed funds, inspired stock picking or deft timing of the market, moving in and out to secure the greatest profit.
Unfortunately, no reputable adviser can make such a promise. Academics and practitioners have for decades tested virtually very imaginable combination of variables in an attempt to find a magic formula. They have found some techniques for constructing portfolios that deliver good returns with less risk, and these techniques collectively are known as Modern Portfolio Theory, but over time there has never been established a formula that really can be rigorously proven to deliver very high returns through selection of individual assets.
You have to ask yourself if when an adviser promises you substantial market beating returns, without incurring substantial risks, is that adviser promising more than can be delivered. Many such advisers were putting their clients into technology funds in 1999 and 2000, with the inevitable result being clients losing half their money. In the section of this site on financial strategy I do explain, in some detail, which strategies have tended to work well over time, but none of them produce returns that come close to making people rich quickly.
There is simply no way to state in advance that a fund is going to deliver very high performance, certainly past performance is a very poor predictor of future results. Stock picking can be hit and miss at best, and requires discipline and attention to detail well beyond what even most professional investors are willing to muster, which is why there are so few people that have been able to distinguish themselves in the field over a long period of time. Timing decisions are impossible, although the profit potential might seem high, in reality the costs of trading (brokerage, switch fees, capital gains taxes, buy/sell spreads) negate any gains – not that anyone has ever demonstrated an ability to harness those gains.
No adviser worth his or her salt could ever claim to be able to guarantee a high return without at the same time implying higher risk, and yet this is precisely the promise made, at least implicitly, by the funds management industry. Advertisements imply you can make spectacular returns, and hype up their top performing funds (based on past performance).
The reality is that very few funds can maintain such high performance for any length of time, and that the “star” fund being marketed based on 25%pa past performance is probably no more likely to do well going forward than any other. In fact, the most common observation is that the funds up the top of the ladder in one decade usually find themselves at the bottom in the next. (So it is usually a better idea to actively avoid funds with very high recent performance, “the year after the year before” for a record breaking manager is rarely a pretty sight.)
We are not promising average returns because we are merely average advisers; we are promising average returns because this is all an honest adviser can do. We don’t like people that make promises they know they have no hope of keeping. We are confident that by prudent portfolio construction, using an appropriately diversified mix of investments and careful attention to risk that we can deliver excellent returns over the long term without high risk, but this doesn’t mean spectacular numbers over the short term. We are promising that with an appropriate strategy you can realistically hope to achieve returns roughly in line with world market performance.
We try to achieve high performance for our clients not by promising to select the one investment that will perform above all the rest and make you rich, or by claiming to have the ability to predict market turns with any reliability, the core to our “technique” is simply to reduce the unnecessarily cost of fees. We don’t use a master trust unless we really have to, saving 1%, we make good use of index funds instead of active funds, saving another one percent, we minimise transactions to save you money on adviser fees and also capital gains tax. This could add at least another percent. Costs and asset allocation are the only aspects of your returns that the adviser really can directly control, and yet because the financial planning industry as a whole is more concerned with marketing than advice, these are frequently the areas given the least attention by commission based advisers.
Our most important advantage for investors is our knowledge of the limitations of actively managed funds and the benefits of indexing, our discipline in recommending investments be held for the long term and fees and taxation minimised (and selecting investments based on long term fundamentals, rather than short term speculative potential), the attention to detail in providing comprehensive advice on all aspects of financial planning, (not just the ones that generate commissions), and our focus on quality individual portfolio creation and maintenance (instead of fund selling).
Better reasons to seek an independent financial adviser
We hope the above has helped give you some perspective on what a financial adviser can’t do for you, we aren’t soothsayers and we don’t know what the market is going to do next year any more than anyone else does. Despite this lack of clairvoyance, a financial adviser can be very useful though in helping you achieve a good return.
While timing markets is impossible and identifying the next great growth stock is almost as hard, a professional can be very helpful with advice on portfolio construction. An investor has complete control over only three aspects of their investment, and a good financial adviser can help with all of them:
- asset allocation; and
- costs; and
- long term investment discipline
Asset allocation is a major concern of ours, and this is the subject that we put the most effort into as investment advisers. The strategies used to create a diversified portfolio are collectively known as “Modern Portfolio Theory”, and these strategies form the cornerstone of professional investment strategies. It is by selecting the right asset allocation that an adviser is able to give you a portfolio that has been specially created for you. In the section under strategy we have said a few words about our “three dimensional” approach to risk profiling, it is by careful attention to asset allocation that we are able to provide a portfolio with the right risk and return characteristics to suit you.
Costs are the next major factor. Most amateur investors tend to put their money into the heavily marketed funds they see on television and in the financial press. They also have an unfortunate tendency to switch from one fund to another to try to catch the “hot” funds. It is precisely because they incur such great costs that most amateurs perform so badly. With our knowledge of what products are out there, and the fact that we’re independent so we can choose from the full range of Australian products rather than from a limited list, we know many products that are significantly lower cost than the products most members of the public buy.
A good example is a wrap account or master trust, most people use the bigger and better known ones like Asgard, Summit, Flexiplan and Navigator. While these accounts aren’t the most expensive products out there (you could do much worse), the accounts we use are just as good yet the fees are as much as 1% lower. There is a good chance that we could make you an extra 1%pa simply by switching you to a lower cost wrap account or master trust, even if you keep your portfolio more or less the same!
The third aspect that an investor can control is their long term investment discipline. There are major tax advantages, lower risk and higher returns available to investors that contribute regularly to their portfolio and keep transaction costs down by holding for the long term. You could do this yourself, every highly successful investor has this discipline. Many find though that it is a lot more difficult in practice than in theory, they choose to postpone their regular investments during falling markets, and they double up when the market goes up. This would be fine if investors could predict what the market is going to do in the future, but they can’t. In practice when you have a policy of only buying during strong markets you will introduce a bias to your portfolio, you will always be a buyer at the top, and almost never a buyer at the bottom.
So why see a financial adviser? A good financial planner has the technical expertise and understanding of the tax system, superannuation, estate issues, insurance and social security to allow you to take the most advantage of what opportunities are out there to get the most advantages out of all of them.
A good financial adviser knows what products are available. We have read hundreds of prospectuses (now known as “product disclosure statements”) from almost every Australian fund manager, we know how to quickly identify all the fees and charges, and more importantly we know what rival products cost as well. If you don’t have the time to examine dozens of products, then don’t worry, because we do, and we have, and we will continue to do this as long as we are in the business of providing finanical advice.