Why it makes sense to engage a financial advisor?
We have recently got our registration as a SEBI Registered investment Advisor (RIA). We have had reasonable success in getting clients in this short period. One observation which has struck me while making the sales presentations during this period. While most of the clients are in full agreement with respect to the need for a financial advisor, many of them develop cold feet once the discussion turns to fees. They believe that the value of the advice would not exceed the price they would pay. However, they are unaware about the commission they are already paying on their existing investments to Mutual Fund or Insurance Agent/ Distributor without getting any comprehensive advice. Also looking at the components of the investment portfolios of most of them, it reveals that they would gain enormously from professional advice.
Another reason for staying away from professional advice is not accepting that they have made bad investments in the past. Even if some of them accept it, they feel that the cost of professional advice is greater than the price they would pay for these investment errors. However, a deeper analysis would reveal that this is not true. For example, some people keep on paying 1-2 lacs annually as insurance premium amount for a very inadequate life coverage and dismally low returns (4-5%). Similarly, some people keep most of their savings in FDs which give very low real returns (taking inflation and tax into account). Others pay steep hospital bills because they failed to purchase a health insurance plan. In some families, the bread earner passes away or becomes incapacitated due to some illness or accident leaving the family virtually destitute because adequate life cover was not there. While some are able to avoid these commonly observed financial planning errors, most of them would do better with professional advice.
Some other commonly observed financial mistakes people make are:
Investing without taking their risk profile and goals into consideration. Sometimes, this can result in heavy financial losses and tremendous mental agony. Many times, this may make an investor go away from the investment market for a long time due to the bad experience.
Evaluating products after investing. A friend of mine informed me that he purchased a policy in March as he had to save tax. He wanted me to check up if he should continue to pay the premium or surrender the plan. This could have been avoided if he had sought professional advice before purchasing the policy.
Not preparing the Will making the family run from pillar to post to claim their legitimate assets, in case of unfortunate event of death. Absence of Will also lead to unpleasantness in the family. An investment advisor will help you prepare the WIll.
Putting majority of your investments in real estate. While real estate has given good returns in the past, it may not be the case in future. Moreover, it is a very illiquid investment and you may not be able to encash it immediately when needed. One of our friends, who is retired has most of his investments in real estate. The valuation of these assets is quite large but unfortunately, since he does not have much in financial assets, he is regularly facing cash flow problems.
Upfront cost vs. Total cost
The mutual fund or insurance distributors don’t charge the clients but they get commission on the investments their clients make till the time they remain invested. This results in increased cost as the commission is paid from the price they pay. On the other hand, the investment advisors don’t get any commission as they don’t represent any MF or Insurance company but they charge a fee to their clients. This results in an unbiased advise vis-à-vis a commission earning distributor, who are likely to promote products that give them higher commissions.
For the last few years, there are products available in the market which have zero commission component. Investment advisor will always recommend you zero commission products.
Therefore, one must focus on overall cost and not just the upfront cost one pays to the investment advisor.
Some additional behavioural arguments in favour of financial advisor
Not everyone is a doctor. You don’t search on internet for treatment and medicines beyond a point. If home remedy doesn’t work, you approach a doctor. Similar is the case for financial planner.
While everyone knows that regular exercise is essential for maintaining good health, still very few follow it on their own. Some people join the gym and gym instructor devises an exercise plan for each individual based on his physical ability and goal. Similarly, an investment advisor devises investment plans for each individual based on his risk profile & goals. Similar to the gym instructor nudging and pushing his pupil to do the best, the investment advisor also does it regularly.
An investment advisor (for that matter anyone) cannot assure any returns on investment but can surely help in reducing the uncertainty of the future through financial planning and doing course corrections throughout the financial journey of life. This will surely give you peace of mind.
Author: Arvinderjit Singh, Managing Partner, Finance First Advisers