Trust is the foundation of any relationship.
Break it, and you could lose a friendship forever. Keep it, and you’ve got a friend for life.
But imagine the concept of trust when you’re talking about a financial advisor, someone whose decisions about your money can be the difference between a comfortable retirement and golden years that aren’t so golden.
And let’s be honest. The banking crisis of the 2000’s and the seemingly yearly convictions of fraudsters has made many of us a little wary of handing over our future to someone who claims to be trustworthy and skilled.
This distrust makes us wonder how we can find someone with a good reputation and who has our best interests in mind. To figure this out, we talked with Raghav Sharma, founder of GuideVine, an app that matches consumers with vetted financial advisors and planners in the GuideVine network.
So, let’s talk about finding a good advisor or planner: how trust should influence your decision, red flags and how you can check their background to make sure they don’t have any violations or criminal activity.
Finding the Advisor or Planner You Need: Trust Is the Name of the Game
Remember how we opened our article talking about trust? We did that because we live in a time when only about half of the population trusts financial advisors.
In fact, Betterment CEO Jon Stein told us that consumer trust levels are at the same level they were at the height of the banking crisis and recession. Too many things in recent history have gone wrong for us to trust an advisor or planner right off the bat.
Too many things in recent history have gone wrong for us to trust an advisor or planner right off the bat.
A study from financial services marketing firm Edelman agrees with Jon. According to their 2014 study, trust in the financial services industry was lower than 14 other major industries.
And that’s why GuideVine’s Raghav said trust should be your top priority as you search for someone to manage your investments.
“Trust with your financial advisor is probably your biggest component for choosing someone for the job,” Raghav told us. “Advisors often have access to the same services, so really what you’re choosing is the person.”
A Pair of Steady Hands
Think of your investment as if it were a superstar and you were choosing a personal bodyguard. Do you want the person protecting your most important asset to be jumpy and scared or cool and calm? When a threat presents itself and they have to draw their weapon, do you want the hand holding that weapon to be shaking like a flimsy branch in the wind or do you want a rock-solid, steady hand?
Even though your investments aren’t your “life”, they do have a big impact on your quality of life. So, choosing an advisor who can ride out the ups and downs of the market is also an important part of your decision.
“Do they have a steady pair of hands that makes you feel comfortable,” Raghav asked.
Another important part of trust? Finding an advisor who knows the ins and outs of your particular profession.
Experience With Similar Situations
Don’t underestimate your job and the impact it has on your finances. Why? Because it will benefit you to work with a financial advisor who has clients just like you.
“If you’re a tech entrepreneur, you don’t want an advisor who works with doctors,” Raghav said. “Your needs are different from what doctors or dentists are doing.
In real-life situations, you can figure this out with just one question: “Have you ever worked with clients in my position?”
But finding the right advisor isn’t just about the trust you feel or the advisor’s experience with similar clients. Licenses and certifications are an important part of your choice.
And guess what? Just like any big financial decisions, there are certain red flags you need to know before you hand over your money.
6 Red Flags That Should Make You Walk Out the Door
In 2015, the SEC hit financial services companies with 807 violations and levied $4.22 billion in fines. For the record, those 807 enforcements weren’t all against neighborhood advisors and planners; huge, multi-national companies were involved in the biggest cases.
However, it gives you enough proof that you have to be smart about choosing someone to manage your money.
Here are six warning signs that your advisor or planner may not be trustworthy:
Red Flag #1: They Promise Huge Returns
Most of us invest to make money, right? The idea is that if we put our money in the right stocks or mutual funds, those assets will go up in price at a rate that makes you a decent amount of money each year.
Even though there’s a certain amount of risk is involved here, we rely on expert advice, our own intuition or our advisor to pick the assets that will make us tons of money.
Shady financial advisors know this, as do legitimate ones. The difference between the two is that the shady “experts” will convince you they’ve got the winning formula to make you a 10% profit year in and year out.
Why is a number like 10% such a big deal? After all, a 10%-off sale isn’t that appealing, right? So why would a 10% return on an investment be a big deal?
Well, the reason it’s a big deal is based on something called “compound interest”. Let’s say you give your advisor $1,000. He or she says they’ll make 10% a year for you. At the end of 30 years at 10% a year, that original one grand turns into $17,449.
The first year your original $1,000 will make $100. The second year, you’re making 10% on $1,100, which bumps up your original investment to $1,210. That number goes up and up each year because you continue to make money off the money you’re making.
Let’s compare that to a 3% return. At the end of the same 30 years, you’ll make $2,247; that’s a difference of more than $15,000. You can imagine how crazy the numbers would get if you did a one-time investment of $100,000 instead of $1,000.
Most likely, a shady advisor will dazzle you with these numbers hoping you’ll fork over your cash. The big problem with these claims is that no advisor can be certain of any type of return. There’s always a risk. Anyone who guarantees returns, especially big ones, is a red flag.
As Raghav told us, “Nobody can say for certainty what they’ll make you each year.”
Red Flag #2: They Can’t Explain Their Strategy Simply
Even though the investment world is really complex, that doesn’t mean your advisor is allowed to drown you in complex strategies and methods. This type of going-over-your head talk isn’t necessary. Your financial advisor should be able to talk about their strategy in simple terms.
“If they can’t explain simply and clearly how they’re going to make money, those are folks I would avoid like the plague,” Raghav said.
The reason an advisor may be fronting their services with a twisting, turning explanation that confuses might be because they’re trying to hide something, whether it’s poor choices or hidden fees.
This principle applies to advisors who give you very short answers that don’t explain anything. The lesson? Be wary of advisors who say too little. This is also a sign they could be hiding something.
We like the example U.S. News and World Report used in a Feb. 2016 article titled, “10 Warning Signs You Should Fire Your Financial Advisor”.
Quoting a Texas-based advisor, they pointed out an example of a woman who left her advisor because, every time she asked him about her money, he’d give her a short answer like, “It’s invested in good stuff.”
“No topic should be off limits for discussion,” the article reads. “Always ask yourself if you can trust your advisor with your financial future.”
Red Flag #3: Jargon, Jargon, Jargon
“Don’t worry, we’ve diversified your investments so they can push through headwinds and get us some high alpha this year.”
What do you make of that sentence? If you’re lost, don’t worry. You’ve succumbed to some seriously jargony advisor-speak. You might never hear this exact phrase from your advisor, but it serves as an example of how advisors can get too caught up in investment buzzwords.
Don’t get us wrong; jargon is fine when advisors are talking with their colleagues. But jargony conversations with clients who don’t understand the lingo is a bad sign.
It might indicate that your advisor is out of touch with your situation, but it also means they may not have a great bedside manner when the markets are crashing.
“If they can’t explain their strategy to you in the good times without using jargon,” Raghav said, “how are they going to communicate with you in a way that brings you comfort during times of financial stress?”
Tip: Check out this article by U.S. News and World Report to brush up on investment jargon.
Red Flag #4: Super Complicated Fees
Previously, we talked about how fee structures work. Advisors usually charge you either commission on transactions or fees/flat rates.
Hourly rates have the advantage of control – you know how much you’re paying your advisor and you can measure their output based on how many hours they’ve charged.
And, advisors who earn by the hour most likely aren’t going to try and sell you mutual funds or other investments that give them a fat commission.
This is sort of like when you tell a car salesman you need a small sedan, but he pushes you to a big SUV because he can make more money off that SUV than he can from the sedan you’ve been eyeing. That’s not the salesman you want; one who listens to your need and acts in your best interest is the better choice.
If your advisor is charging you fees, keep an eye out for anything suspicious. Shady advisors like to add random fees to your contract that you may not catch.
“If it seems like you’re going to be getting charged for breathing, be wary,” Raghav said. “If that’s the case, you’ll have a hard time predicting how quickly those fees will add up.”
The solution here is simple: ask your advisor to explain all his or her fees.
Red Flag #5: They Ignore Your Spouse or Partner
Finances should be a team effort. Both partners in the relationship should have a clear understanding of where their money is going. After all, investments affect both your futures.
So, if you find your prospective advisor talking only to you and ignoring your spouse or partner, it’s time to walk out of the office.
“You need to find someone who is going to engage all parties equally so they’ll have that trust with everyone involved,” Raghav said.
Investopedia contributor Roger Wohlner offered the same advice in his article about the habits of bad financial advisors.
“Any adviser worth their salt should be upfront that he or she serves the interests of both spouses equally,” Roger wrote.
Red Flag #6: They Steer You Away from Third-Party Custodians
When we hear the word “custodian”, it takes us back to our elementary school days. The custodian was the man or woman who would clean the school grounds and make sure everything was tidied up.
That’s kind of how investment custodians work. They’re usually big financial institutions with familiar names like Charles Schwab or Fidelity Investments.
Advisors will often place your investments with these third-party custodians because they’re a safe option where risk is minimized. In other words, those custodians make sure your investments are well-kept and tidied up over time.
An advisor who steers you away from these custodians is pushing you toward risk, and maybe even something worse. Roger from Investopedia included this habit in his list of red flags.
As an example, he pointed to infamous Ponzi schemer Bernie Madoff, who insisted his clients pass on a third-party custodian and use his own investment caretakers.
Resources You Can Use to Check Your Advisor’s Background
Let’s say your potential advisor passes all the red-flag tests and seems like a pretty trustworthy person. There’s one of two possibilities here: either they’re a great actor or they really are as honest as they seem.
If the six red flags were the first six hurdles your advisor needed to clear in order to cross the finish line and win your trust, checking his or her SEC history is the last one.
Use FINRA to Check Their Broker History
The best way to check out your advisor’s background as a broker (buying and selling investments on the client’s behalf) is to go to the Financial Industry Regulatory Authority (FINRA). It’s pretty much the CARFAX report of the advisor world.
Enter your advisor’s name into the BrokerCheck box in the top right.
Their home page has a search box in the top right. Type in the name of the advisor you’re considering and click the search button. You’ll be taken to an overview page that includes the advisor’s name and his or her CRD number, a numeric ID they’re issued when they register with FINRA. At the time of our research, FINRA’s system has more than 640,000 active registered individuals.
This page will include basic information: their titles (investment adviser, broker, etc.), any disclosures (complaints, violations), the exams they passed (Series 66, etc.), in how many states they’re registered and how long they’ve been in the investment industry.
Here’s an anonymous screenshot of a search we did for a local broker/advisor:
Explore this page to discover the basic details about your advisor.
As we said, this is basic information. Don’t stop here. Click on the “detailed repot” link. You’ll get a PDF with a complete history of the advisor:
- His or her business address
- Registration history
- Disclosures (bad stuff in their work history)
- Detailed report of their disclosures
- When they were registered for which states
- Which exams they passed and when
- Which firms they’ve worked for
The anonymous broker we checked had one complaint in his or her history. FINRA denied the complaint, meaning the advisor was cleared of wrongdoing.
Use IAPD to Check Their Advising History
As we talked about a few seconds ago, FINRA is where you go to check out an advisor’s record for buying and selling stocks, bonds and the like on behalf of their client.
Enter your advisor’s name in the search box at the top of the screen.
If you want to check out their record for offering financial advice and planning, head to the Investment Adviser Public Disclosure (IAPD) website. You’ll get general information as well as a detailed report similar to what FINRA gave you, but from the planning/advice side of things. Advisors who pop up on IAPD are, in most cases, registered with state authorities and the SEC.
Tip: Find an advisor who is registered with FINRA and IAPD. Advisors who are purely brokers (FINRA) aren’t bound by law to act in your best interest (“fiduciary duty” … more on that later). Advisors registered with FINRA and IAPD must act in your best interest, based on the Investment Advisers Act of 1940.
Bottom Line: It’s a Tricky Process, But Building Trust Pays Off
Finding the right advisor can be a nerve-wracking experience. There’s a lot of money and your entire financial future on the line; nerves are good … they keep you alert and watchful.
Write down the red flags we mentioned, as well as any other ones you find in your research, and take them with you as you talk with advisors. Don’t be afraid to ask direct questions. Pay attention to their answers, their tone, and their body language.
Also, check their FINRA and IAPD histories. If you see any red flags in those reports, don’t be afraid to drop the advisor in question and look elsewhere. The time you put into finding a good advisor is worth the long-term peace of mind you’ll have.
And remember, advisors registered with FINRA and IAPD are bound to something called “fiduciary duty”, which means they’re legally bound to make investment decisions in your best interest. Finding the right one to work on your behalf is like finding a guardian angel, Raghav said.
“A fiduciary advisor can be a guardian angel for your money,” he said. “They take your life events into consideration as they manage your investments and they keep you off the proverbial ledge when the markets go up and down.”
Because advisors are certified professionals, they’ve got the skill set and experience to help you more than, let’s say, a family member or an online source can.
“If you’re working with someone who is a CFP or CFA, you’re working with someone who has put in a load of hard work to get to where they’re at … and that’s better than your Uncle Richard or a blog’s advice,” he said. “Their opinions are rooted in experience and study.”
Now, if you find yourself wondering if you need an advisor or you’re considering using a financial planner or robo-advisor, read our guide to finding out which financial professional is best for you. We’ll walk you through what advisors, planners and robo-advisors do and we’ll help you understand which service is best for your particular season of life.