When it comes to choosing the right adviser, IndexUniverse.com’s ‘Behaviorist’ stresses that the right decision is less about trust and more about trustworthiness.
Today, investors are more concerned about trust than ever before, and who can blame them? Ponzi schemer Bernie Madoff seems to be the conspicuous tip of a large iceberg of high-profile advisers charged with bilking clients out of millions of dollars. If formerly reputable advisers are accused of taking advantage of the country’s rich and famous people, what is the average investor to think? Who can you trust?
The real issue, in my opinion, is not trust but trustworthiness. Trust is given. Trustworthiness must be earned. Nearly 40 years in the financial advisory business has taught me that the most important attribute in an adviser is trustworthiness.
The true value of an adviser flows from that single attribute.
Certainly advisers must be both competent and professional and should treat clients with objectivity, fairness and respect. However, trustworthiness determines the real value of an adviser. An expert adviser who is untrustworthy has little real value if you need to monitor his every move. Better to have a trustworthy novice who understands his limitations than an expert who might cheat you given the chance.
The sad truth is that it’s extremely difficult for the average investor to differentiate an honest adviser from a dishonest one (except retrospectively). It’s just too easy for unscrupulous advisers to pull the wool over a client’s eyes. Securities regulators and in-house compliance departments are responsible for protecting investors, but it’s clear that many shady operators manage to evade detection until it’s too late.
So what is a typical investor to do?
A good start is to control access to your capital. Use a third-party custodian and limit how much an adviser can bill or transfer from your account without prior approval. A third-party custodian allows you to independently verify what is happening in your account. You still have the responsibility to carefully review monthly statements as you receive them.
Using an adviser who accepts the legal responsibility of a fiduciary is also an important safeguard, but it’s still no guarantee against fraud. Bernie Madoff was a fiduciary—he just didn’t operate that way. Nevertheless, it’s better to work with a fiduciary if only to know that the law places a legal obligation on his actions.
Most importantly, keep conflicts of interest to a minimum. This is particularly true when it comes to compensation. Many ethical advisers earn their living through commissions. Still, there’s no getting around the fact that commission-based compensation is rife with conflicts of interest. Compensation based on assets under management has fewer conflicts, while compensation based on an hourly rate has the least. But all business relationships have some conflicts, so those that can’t be eliminated must be adequately disclosed and resolved. Know how your adviser makes his money.
Another sign of trustworthiness is adherence to a written code of conduct or ethical policies. Various professional organizations hold their members to codes of conduct or specific ethical standards. Advisers who are CFAs, CFPs or AIFs (among others) are required to follow that organization’s stated ethical policies or risk losing their affiliation.
Beyond ethics, trustworthiness also has to do with an adviser’s honesty about his limitations—openness about what he can’t do for you as well as what he can.
Finally, there’s the personal element—the importance of empathy. Does your adviser care about you as a person? Does your adviser listen to your questions and answer thoughtfully? You shouldn’t underestimate the importance of intuition when it comes to deciding whom to trust. There are times when the subconscious mind sets off warning alarms that something isn’t quite right. Ignore those feelings at your peril.
At the end of the day, some uncertainty will remain and you’ll still have to decide whether to grant this person your trust. The more evidence that an adviser is worthy of your trust, the greater the chance you will make the right decision.
As Ronald Reagan used to say: “Trust—but verify.”
Kent Grealish is a financial adviser with San Bruno, Calif.-based Quacera Capital Management LLC. Grealish, an accredited investment fiduciary® (AIF®) and a certified financial plannerTM (CFP®), provides services on an hourly, fee-only basis.