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opinion

The business model of investment advice is that clients pay fees regardless of whether their portfolios go up or down.

This will be an issue as we close out the year and head toward the investment industry’s annual accounting of advice fees for clients in early 2023. Rarely have investors faced such a disconnect between fees, advice and returns.

Down years for investors are a normal thing. Winter is always coming when you invest in stocks. What separates 2022 from other disappointing years is the fact that the worst declines came from bonds, the supposedly safe and non-threatening part of a portfolio.

Unsure of the value you got this year for the fees paid to your adviser? Start your analysis by recalling what your adviser did to manage the unusual events of 2022.

Let’s be clear about fees – a system where you only pay for good returns is unworkable. In that world, the fee hit in a good year would be massive and the complaining from clients would be loud. A better way to think about fees is to disconnect them from short-term returns and instead think about paying for ongoing financial expertise that includes your investments and more.

Good advisers earn their fees by managing portfolios based on an understanding of your financial goals and outlook, including your ability to live with stock market ups and downs without cracking. Ideally, there’s a financial plan that sets out how much money you need to reach goals like retirement, and the investment contributions and returns you require.

From there, the adviser moves onto constructing a portfolio of bonds and stocks blended to fit your needs. This brings us to the heart of what matters in assessing the value of your adviser’s work in 2022.

There are two ways advisers might have prepared clients for this year – by tweaking an existing portfolio mix or by sticking to a long-successful portfolio mix and coaching clients to look beyond short-term events. The adviser who said nothing and did nothing while a traditional 60-40 portfolio tanked is a problem.

Bonds were pounded in 2022 as interest rates increased from the extreme lows of the pandemic. Whatever direction rates are going, the price of bonds and bond funds does the opposite. Given how absurdly low rates were in 2020 and 2021, your adviser should have seen the events of 2022 coming.

In mid-2021, I did a Q&A with BlackRock senior North American strategist Kurt Reiman that covered the risk to bonds and 60-40 portfolios. At that time, Mr. Reiman suggested sticking to short-term bonds and emphasizing bonds issued by corporations as opposed to governments. Both moves would have taken the edge off the decline in bonds this year.

Another approach was to adjust balanced portfolios to have more exposure to stocks and less to bonds – maybe a 70-30 mix. The damage done to your portfolio by a stock market crash would be more intense this way, and stocks were down sharply earlier in the year. But over all this year, 70-30 has a chance of outperforming 60-40.

It’s defensible if your adviser kept you in a 60-40 portfolio, but talked it through with you. Balanced portfolios are beaten down now, but a bond market rebound next year would help them recover. In fact, putting money into a balanced portfolio now is arguably a good way to play a return to normal conditions in financial markets. In other words, lower interest rates and a declining inflation rate.

Advisers and their firms share fees, which are often applied as a percentage of account assets. A common range is between 1 and 1.5 per cent. Advisers who sell mutual funds are compensated differently – through trailing commissions of 0.5 to 1 per cent, which are buried in the fees that fund companies apply against gross returns. In either fee model, the returns you see as an investor are shown on a net, after-fee basis.

Fees cut into your returns, so you want to make sure you’re getting good value. The way to start this process is to review what your adviser did or did not do for your portfolio to prepare for 2022, and the rationale.

Next, consider the broader advisory relationship and what it’s meant to your finances. If you’re making good progress, you should be able to take a rotten year like 2022 in stride.


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