The Goodwill Investing Journal - Issue #37

Hello everyone!

Today I’m debating the good and bad of Financial Advisors. Sorry in advance for the longer-ish email, but it’s important.

If you are enjoying the Journal, please forward this to your friends, family, and colleagues to subscribe.

1. Personal Finance

Earlier this week I shared a post on Instagram about the problem with Financial Advisors:

Hiring managers don’t care about financial experience - they care about your Rolodex and sales. If you can’t raise $20-30 million in the first three years, you should look for a new job because you likely won’t last.

Therefore, incentives for young/fresh advisors are to gather assets as quickly as possible, meaning more time is spent on “growing a book” instead of servicing clients. And yes, even seasoned advisors place a high priority on new asset gathering, which can also detract from current client needs.

Fees at 1%/yr on a $100,000 portfolio ($1000/yr) seem small. But let’s say Mr/Ms Client’s portfolio grows to $10,000,000 due to an inheritance or some windfall from their own hard work. The same 1% fee is $100,000 EVERY YEAR, for largely the same exact service from the advisor and the firm. A 100x increase in your fee, out of your own pocket.

Under this Assets Under Administration fee model, a biased advisor may steer Mr/Ms client away from investments that are “off book” (like the Narland Limited Partnerships we syndicate). Because once that money leaves, it will no longer generate fees for the advisor. Even if the deal makes sense for the client, an advisor that cares more about their AUM may steer the client away from sensible investments.

A lot of advisors will tout their portfolio performance, but Mr. Client will later learn they are invested in the “house” product - meaning a portfolio run by a completely different team than said advisor and that “house product” may not even be the best alternative for the client to be in.

There are 477 different designations an advisor can have. CFA is the best indication for brain smarts. But everyone who doesn’t have one will complain and tell you otherwise (most likely they attempted but failed miserably). And if you haven’t noticed, whether said advisor has a CFA or any other designation does not mean they are good at managing money anyway.

Sadly the industry profit model basically only works for people that already have wealth. It does not support bringing on clients with little money, who may actually need MORE assistance to actually build their wealth.

That’s the bad. Now, as promised, here’s what a Great Advisor can do for you:

Complete a Financial Plan. This is not simply asking for numbers, but a wholesome discussion around goals, fears, questions, and identifying the client’s emotional relationship with money.

Iterating the Financial Plan for various probable scenarios, as well as check-ins along the way. If not going according to plan, why? Three causes - investment performance (Portfolio Manager’s responsibility), spending (your responsibility), and incomes (your responsibility). Having a plan is like booking a direct flight, but real life is more like bush-whacking with the occasional look at the compass. Need to check in on your direction frequently to see if you are on track, or need to course correct.

Design an asset allocation based on your ability to take risk; in other words, your capacity for risk based on your income, net worth, the financial plan, etc. Equally important is an assessment of your willingness to take risk. An advisor could suggest a highly risk-tilted portfolio for someone whose financial situation calls for it. But if the client can’t emotionally handle the price of being invested (volatility, fear, sleepless nights) the great advisor will recognize this and adjust the investment profile accordingly. Perhaps over time the advisor can educate and provide a path to better money psychology based on their situation.

Other “stuff” that doesn’t show up on a “performance” statement. Low hanging fruit such as: never holding cash (cash should be at a minimum invested in money market products); staying fully invested at all times according to asset allocation; estate planning and insurance needs assessment and implementation. Minimizing portfolio costs. Using low cost ETFs where it makes sense (i.e. instead of picking US individual stocks, buying the SP500 Index instead because it’s the hardest market in the world to beat) while evaluating fund managers for other sectors that deliver alpha over their respective index (i.e. Emerging Markets, International, Bonds/Credit). Always max-funding tax advantaged accounts where possible. If there is a corporation then suggesting a dual will structure to lower probate costs as well as properly allocating investment products based on their tax qualities. Joint accounts for families with husband and spouse as alternates (so when one dies it becomes owned by the alternate instead of going through probate). Simple things like setting up beneficiaries correctly, as well as the pension tax credit where $2,000 can be moved from a Retirement Income Fund (RIF) to your non-registered account tax-free each year.

The ultimate value a Great Advisor provides is twofold - and no, it is not beating the S&P500 index

(1) Preventing clients from making grave mistakes with capital. During the depth of COVID, we had a very rich client lose millions selling all his equity at the bottom, against our recommendations (we were buying for the other 199 clients). He crystallized the loss and forever eliminated the opportunity to recover the loss during the price appreciation. He bought back in when prices were back above the previous high. That mistake cost Mr Client millions of dollars. At the end of the day, you sign up for an advisor/portfolio manager relationship because you trust their system and judgement. If you don’t have that, then why bother paying all that money in the first place.

(2) Keeping clients accountable. While fees can be an issue, and they are easy to prey on because they are known, if hiring an advisor keeps a client on track, fully invested, hitting savings targets, staying motivated to grow the heck out of their portfolio, as opposed to doing nothing…that, is priceless.

To conclude, I truly do believe that the advisor model needs some structural changes. As stated before, I don’t quite agree with the fact that an account starting at $100,000 that grows to $10,000,000 (inheritance, business windfall etc.) should pay $1,000 then $100,000 for similar service. Even in a tiered structure, you might pay 60bps on $10,000,000 which is $60,000 PER YEAR and a helluva lot of money. You could manage your own investment portfolio while contracting experts to do the same work as the advisor is doing, at a cheaper remuneration overall.

But it’s a dominant form of money management, so probably no big disruptions anytime soon.

The alternative is to do it yourself, at a fraction of the cost.

You pick.

2. Stock Markets

Following the Federal Reserve’s 0.50% rate cut, my friend Steve passed along this wonderful chart from Visual Capitalist.

Essentially what it shows is that for most rate cut cycles - which are typically initiated when the economy looks to be on shaky ground - the stock market is positive within one year. The exceptions were in 1973, 1981, 2001, and 2007.

For example in 2001 when the tech bubble collapsed and the terror attacks of 9/11 took the financial markets by storm. Or in 2007 as the first rate cut coincided with a housing market bubble that cracked and morphed into a absolute financial disaster due to excessive leverage in the obscure world of banking and derivatives. Rate cuts didn’t save the stock market from forces of economic gravity in these cases.

So where does that leave us today - soft landing or hard landing? Good question! To be pessimistic and assume the end for stocks is nigh would be going well against the grain of history in terms of what is ‘probable’. But as readers know well, short term prediction is a crap business anyway. And remember, stock markets and economics are not correlated 1:1.

My overall takeaway is that stocks will always be volatile in the short run, but wonderful compounders in the long run. Extending your time horizon is the single most powerful thing you can do to improve your investment success.

3. Real Estate

I was texting with a friend of mine who just completed on an investment condo that was originally purchased via pre sale four years ago.

His comment: “seemed like a good idea when interest rates were 1%!”

Indeed, as is the case with a lot of condominiums, rents today are not sufficient to cover the mortgage and strata fees, not to mention the time to find a tenant and manage the unit and incidental costs that come with ownership.

With hindsight being 20/20, the set-it-and-forget-it S&P500 has doubled in 4 years.

He closed: “being a landlord we have a huge list of things to do. Not all it’s cracked up to be.”

The saving grace is that the condo is in one of the most desirable places to live in the world.

So with a long term view, the condo will pay off.

1 Quote

A Question

What are your thoughts on DIY investing vs Advisor channel?

I come from that world, so I can see value in both sides. But I’m very curious to hear your thoughts!

If you enjoyed this issue, please forward this email to your friends to subscribe.

Thank you

Eddie Gudewill, CFA

Investing Course

If you want to learn everything you need to know to be a great investor, consider my self guided ETF investing course. 

Customer review:

"Hey Eddie - your course is precisely what I have been missing and has been so helpful in giving me more confidence to invest myself" - 30 year old MBA student.

What you get

✓ 2 hours video content

✓ Take at your own pace

✓ Training by a real portfolio manager

✓ Excel templates i.e. budget, retirement calculator, rebalancing spreadsheet, and more

✓ Unlimited lifetime access, and all future updates at no cost

✓ 100% money back guarantee. If you don't like it, let me know and I'll give you your money back.

I'm trying to make you a millionaire - not sell you some junk.

You will transform from being unclear and apprehensive, to a capable and confident investor.

Learn more here