This is a question that I've had in the back of my head for quite some time... and I finally came up with the right answers to this elusive question: "How to choose a financial advisor."
I've been in this industry for nearly twenty years now and I've met all kinds of great advisors from varying business models, markets, specializations, designations, association memberships, and more. I also know that there are literal criminals out there (Madoff?) who will prey upon those who fall for their pitch.
For the purpose of this article, I am using the term advisor interchangeably, regardless of licensing. Technically, the term 'financial advisor' is not a regulated term, but many firms self-regulate it to mean those who hold a given investment license. But for this article, I will use 'advisor' generically.
Let me start with the things that don't matter:
Licensing: Wait - here me out. What I mean is that the advisor you are working with should be licensed to deliver on what they do. Licensing is a function of a mode of business, not a test of competence, skill, knowledge, or ethics.
By the way, being licensed in multiple states isn't a factor either, regardless of insurance, securities, or both. Again, it's simply a mode of business, not an endorsement or test of the validity of the advisor.
Compensation and "Fiduciary Duty": Whether an advisor is compensated by charging the client fees or earning commissions, is truly immaterial to the right advisor. Compensation is a factor, but it's a side factor compared to how to help you achieve your financial objectives. I say this very deliberately. Why? Because there is a great marketing message out there that those with a Series 65 (or 7/66) have a "higher fiduciary standard" because of the Investment Advisers Act of 1940 and that they "have our client's best interests at heart" because "we do better when you do better."
Quite frankly, I could earn more by being a "fiduciary" over the long-term than doing what I do. However, I love the impact of the work I do. And I get paid quite handsomely for doing it as well. And yes, I can prove it and compare it to a 'traditional' method of wealth management and not only will I earn very well, but the client will be better off in many ways.
Other things that don't matter:
Testimonials: Unless the testimonial comes from someone you personally know (especially if you are introduced to the advisor), it's just marketing. Testimonials are hard or even impossible to verify. They're just nice words. Unless I can verify them, and it's strange for me to say this, but the harder the advisor is trying to win me over... the less I am to trust the words on their site.
Three major exceptions: LinkedIn, handwritten notes, and video testimonials. If you look up your advisor on LinkedIn and see testimonials or recommendations posted there, that's awesome. That's because they are from verified LinkedIn profiles putting their own linked profile to those words. However, not every advisor can do this, and that's largely dependent upon their business model and the compliance requirements for those with that business model. Handwritten notes are just classy and especially if they are on a company's letterhead, they are a great way to show appreciation and a testament to their advisor. They are great to use in having a conversation on who else needs to hear about the work I do. Video testimonials, when their full name is used, can be great too. I have one from an author, economist, and PBS presenter Tom Hegna. It's priceless and valueable to me. I don't know if he's ever done that for anyone else either. I didn't ask him nor did I compensate him for it. I'd love to get more!
Designations: Generally speaking, those who hold designations have a higher education and skill level than those who do not. This was why I pursued the designations I hold. However, I have met and know some exceptional advisors who have no designations at all. So designations is not the ultimate test, but it is nice to have as a reassurance that the advisor you're working with has invested in their career and in their ability to serve their clients.
Industry Association Memberships: I am a member of two industry associations, The International Association of Registered Financial Consultants (IARFC) and the National Association of Insurance and Financial Advisors (NAIFA). I am a member in order to accelerate my knowledge, network with other professionals, and other professional purposes. While all good associations have a Code of Ethics that all members pledge to follow, it's still largely immaterial to the actual advisor and client relationship.
So... what DOES matter?
I believe there are just two factors that matter above all else, and of these two, one is far more important than the other:
Factor #1: Are they doing this FOR you... or TO you?
We can always tell when someone is acting out of THEIR own interests or acting on YOUR behalf. This is not a test of one's licensing. In essence, it's a test of the advisor's character.
In my opinion, if your advisor feels the need to say any of the following: "Trust me, I have a Series 65", "Trust me, I'm a (insert designation here)", "Trust me, I'm a member of (insert association here)", or "Trust me, I'm a (insert religious affiliation here)" ... don't.
Is there a more obvious way to tell rather than just how you feel? I believe so.
When the advisor also points out the negatives of their own plan recommendations to you, yet how they have mitigated these points, or how they aren't or shouldn't be a factor... that is a great sign that you're working with an advisor who is looking at everything from as many angles as possible.
There is no such thing as a perfect plan. Every plan, product, and strategy has positives and negatives. The positives need to help you accomplish your objectives while the negatives need to be factored in, disclosed, and ideally mitigated.
A note regarding agents offering insurance contracts: Insurance can be a rather complicated matter and it is not easy for consumers to understand. Many of today's insurance illustrations... well, they can be dozens of pages... and most agents don't even understand them.
Regarding insurance contracts such as cash value life insurance and annuity contracts: Look for an illustration that will deliver on what they are talking about. Now, I'm not trying to teach the public how to analyze an insurance illustration. However, you do want to see how the contract can deliver on what the agent is promising.
Cash Value Life Insurance: Look for loans and/or withdrawal schedule incorporated in the official illustration, NOT a secondary agent-created document. (I've created many of these, but they always reference an official illustration.)
It is a state and national requirement (by all state insurance departments and the National Association of Insurance Commissioners or NAIC) that all cash value policies are sold with an illustration with current assumptions.
This is important. Why? Well, if an underfunded policy is promised to offer retirement cash flow... well, I've seen these "break even" in year 22-23. There's no way an under-funded contract will deliver on a retirement cash flow promise in an attractive manner.
Under-funded contracts are best used for insurance protection purposes, not for retirement cash flow directly from or against the policy.
Annuity Contracts: Annuity illustrations can be far easier to understand. What you want to look for is the promised cash flow when you want it. You want to see if your plan will incur any surrender charges as you begin taking your planned withdrawals. This will be disclosed directly in the illustration.
Note: Annuities do NOT have to be sold with an illustration! However, the more complex the annuity, the more I would want an illustration to show me what I can reasonably expect from the contract.
Okay, enough on those.
Factor #2: Comprehensive Competence: Bringing a Higher Level of Thinking
This second factor... is the incorporation of the various disciplines and subject matter for planning and applying them for your situation.
What are the various disciplines to be incorporated? Essentially, it's the topics covered in the CFP curriculum:
Financial Planning Process
Insurance
Income Taxation
Retirement Planning
Investment Planning*
Estate Planning
Now, let me be clear: That doesn't mean that every advisor has to work in the same way. I'm not saying that you have to have a written plan that covers all of these separate things. What I am saying, is that your strategy should incorporate each of these areas, applying each of these areas, to how they apply to your situation using their specific business model.
* Someone is going to ask: can an insurance-only licensed advisor help me with investment planning? Yes! However, they cannot make buy, sell, or holding recommendations, nor risk assessments, asset allocation analysis, or individual securities analysis. This requires not just licensing but registration with either FINRA, the State Securities Division, and/or the SEC.
I do make the distinct differentiation between investments and securities. Life insurance and annuities can be investments in that we buy them for what they will do, but that does not mean they are necessarily securities. What CAN they do? Talk about investments in a general way and this general information being applied to your situation.
The more comprehensive the strategy, the more of these six topics will be incorporated into your strategy.
So, those are my thoughts on two major factors on how to choose a financial advisor: