Despite some failings of the industry, most Canadians are better off with good financial advice. Those with larger portfolios have more options with respect to fee reduction and transparency, but newer investors, or those with smaller portfolios, are stuck with the legacy model of commissions or hidden fees. How do they navigate these potentially murky waters?
After my past two columns hammering on the nitty gritty of financial advisory fees, some might mistakenly assume I dislike financial advisers. Truth be told, I believe the vast majority of Canadians need good advice for a fair price. Very few can truly manage their own financial affairs completely by themselves.
Sure, there may be some financial advisers who are less than scrupulous owing to the industry-designed compensation schemes, but I received much more support from financial advisers than criticism for highlighting what happens behind the scenes. Consumers are ready for more transparency, and so are many advisers. That leaves the dealers and the regulators to step up to the plate.
In the meantime, let’s take a look at how an investor with a small portfolio can get the most bang for their buck. They generally won’t meet the minimum portfolio requirement for a fee-based account and they may not be able to pony up for a fee-only adviser who sends them a bill for a few thousand dollars for an investment policy statement and a financial plan.
It turns out, at least in the beginning, that these consumers stand to get the best value of all.
Let’s assume a new investor is given the recommendation for a relatively high-fee mutual fund that carries a management expense ratio of 2.5 per cent. Paying 2.5 per cent on a million-dollar portfolio is $25,000, but for someone without a portfolio who starts contributing $250 per month, the first year’s cost is going to be less than $50. If that investor gets even a basic financial plan that addresses monthly budgeting and cursory insurance advice and a reminder to get a basic will and powers of attorney, that can be a veritable bargain. A cursory investment policy statement would be nice, but it’s not necessary. The growth in the portfolio is going to be dominated by the investor’s savings rate.
We all recognize that people need to be compensated for their time and effort. Even if the adviser put this example investor into the oft-maligned deferred sales charge version of the fund with stiff relative redemption fees if the investor pulls money out too early, they would be splitting $150 of commissions with their firm in the first year. If the adviser is clearly disclosing fees and potential redemption fees, this model works quite well.
However, as the client’s assets grow, a refocusing of that model is warranted. The move toward fee transparency would actually highlight the value for new investors in many cases, but also signal when it might be time to consider switching to fee-based, or fee-only advice models. The focus on the fees of the financial products used will also become more important.
That model or product switch may not ever happen, but it should be up to an informed client to make that decision. And for clients to be informed, we should not shy away from talking about fees for advice or products, we should embrace it.