Who to trust for financial advice

posted on:  8/09/2012            revised:

There have been several unrelated reports in the news recently indicating that people have difficulty knowing who to trust for help with financial advice. One television news report studied working people with who had have fallen behind on key financial planning benchmarks (like having a cash reserve for emergencies) this year even as we continue to pull out of the recession. The excuse given most often by these people for failure to address even simple financial planning by people who had the means to make financial improvement in their lives but were dragging their feet is that they do not know who to trust.

This is frustrating to me because knowing who to trust should be the easy part. Actually finding that person and then sticking to solid financial strategies later are likely to be more difficult in many cases. But the key point is that if you do not know how to know who to trust for financial advice, then the chances of finding an appropriate person are slim. These news report tells me that the combination of challenges means that many people are financially doomed if they do not reach some clarity and take some simple action to improve their situation.

As I thought about it, knowing who to trust is not a simple subject. It invloves an understanding of four seperate concepts, each of which can actually involve complex thinking. In fact, each have been the subject of much philosophical debate. To make these concepts useful in real life for practical decision making, it is necessary to keep it simple.

This editorial lists the most basic considerations of the four concepts that should be considered in finding a person to trust for financial advice. Those are:

1. Potential conflict of interest
2. Fiduciary responsibility
3. Custodianship
4. Credentials and competency

I am aware that the first two items are usually combined into one consideration in financial literature but for practical purposes an individual considering these points for the first time would do well to consider each separately.

Avoid potential conflict of interest

It is necessary to understand and be able to recognize "potential conflict of interest" before being able to avoid it. Most important, your resolution to avoid potential conflict of interest is not an implied accusation of conflict of interest. For example, your decision to avoid using your brother-in-law, altough he may be an excellent fiancial adviser, is based on the principle of avoidance of potential comflict of interest and in no way is an accusation against the brother-in-law.

To apply this concept simple eliminate consideration of anyone with whom you have a meaningful relationship other than providing advice. The typical objection is that these are the people who care most about you. For example, you should stay away from family members or close associates, elders of your church or other similarly influential people in your life. They certainly mean well but their judgement is potentially influenced by their role and relationship.

It also means eliminating from consideration anyone who is paid based on the completion of a transaction. Salepeople, by definition, have a potential conflict of interest in providing advice. This doesn't mean they don't give good advice or should not be used to handle necessary transactions, but rather it means that they should not be on your list of candidates for a trusted financial adviser.

It is a simple matter to ask a potential financial adviser "how do you get paid?" yet surprisingly few people understand this important detail. If the only way for the adviser to adequately paid is to complete a transaction, this is a sales person not an adviser. There is nothing wrong with

Pay attention for signs of not-so-obvious potential conflicts of interest. I once changed personal physicians, for example, because my long-time physician was so much of a "fan" of my past athletic accomplishments and history of rebounding from a series of injuries that it seemed to cloud his judgement in accurately assessing my current medical conditions. It became evident that his knowledge of my past medical history and unusual ability to "bounce back" from injuries affected his ability to make an accurate current diagnosis. This sows up in every day financial planning. Some are overly influenced by a specific approach, belief or philosophy that their work deviates from the bulk of the fact-based evidence.

Use an adviser who has a fiduciary duty

Fiduciary duty simply refers to the legal oblication to act on your best interest when providing financial advice. Because this concept is for too often misunderstood when it comes to financial advisers, it should be listed seperately. It is important to know, at an absolute munimum, that a broker or agent does not have a fiduciary responsibility and they will not be held legally accountable for acting in your best interest under the legal system regardless of what title they put on their business card.

Certain professional roles do carry a fiduciary responsibility. These include Certified Public Accountants (CPA) and independent Registered Investment Advisers (RIA). Presumably Certified Financial Planners (CFP) have the same duty but because of organizational oversight changes being discussed within the professional financial planning community right now that may affect RIAs and CFPs I am simply not qualified to discuss the details of what CFP means with regard to fiduciary responsibility. I do know that CPA means the same as it always has and that the core principle of the CPA profession is accountability to the public.

Keep custodianship of money separate from the adviser

To keep it simple, your money should not be accessible to your financial adviser. In other words, you should not write your check to "Madoff Investment Company" when hiring Mr. Madoff as your financial adviser. Make sure your money is directly conveyed and held by a reputable organization and that your adviser does not have legal access to that money. The custodian organization should usually be legally and functionally seperate from the financial adviser and the custodian is normally an insured bank, investment form or insurance company. Following this simple step would eliminate the large majority of all financial scams. Yet it is amazing how many times people are duped into granting an adviser custodian rights to access client funds.

Credentials, competency and experience

These first two items - credentials and competency - can usually be considered together because they both address the underlying skills necessary to provide good financial advice. Much has been written about the pros and cons of various professional designations and there is little use to repeat that information here. The fact is that anyone can put the title "financial adviser" or any other similar term on their letterhead. It is left to the consumer to do the research and understand the distintions of professional credentials.

These same two items - credentials and competency - must be considered separately in specific situations where it becomes evident that one does not necessarily relate to the other. A common area of tension today is that many credentialed, experienced senior level financial advisers are not competent with the technology required to effectively communicate with and meet expectations of younger clients. An extreme but actual real-life example, a 30-something texts his adviser early Friday evening with an investent question that is urgent in his mind. The CPA adviser did not see it until Monday morning when he returned to the office and booted up his desktop PC. The disjunct in technology causes a breakdown in perception of competency. 

Finally, a word about experience.  The value of experience is most often under-valued by those who do not have is and over-valued by those who do. There is a proverb from an indian warrior proverb about the tribal elder who advocated for peace: "The value of experience is over-rated, especially by elders who nod wisely but speak foolishly". Many in the technology field today would echo similar sentiments. Yet there is plenty of fact-based evidence that the financial planning instincts of younger affluent individuals is just plainly wrong and misguided. The point is that experience should be considered in the context of the assignment. When selecting a financial adviser the value of experience whould be weighed against the ability to apply current evidence and other abilities that combine to build trust and relationship. Shakespeare wrote "Experience is by industry achieved, and perfected by the swift course of time".  Who could argue with that? In the end, we're all experienced.

keywords: financial planning; financial adviser

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copyright 2012 by Tony Novak.    All rights reserved.