By Shelburne Fiduciary Partners
Several years ago, while evaluating the potential acquisition of a business for a prior employer, one of the senior team members said to me, “Just make sure we’re not buying air.” In other words, he wanted to be sure that the business we were about to buy was going to deliver value commensurate with the price we were going to pay. It’s useful advice in just about any purchasing decision, including which investment advisor to hire.
When evaluating advisors, fees are often one of the most important considerations. In a recent study, McKinsey found that the advisors covered by their survey were charging an average annual fee of just over 1% on assets under management for clients with between $1 and $1.5 million1. Most buyers are justifiably concerned with making sure they are receiving adequate value for that cost. At One Day In July, a core element of our philosophy is that lower investment costs allow clients to keep more of their own money, which can then earn compounded returns over time. Our fees are less than half of the McKinsey average for similarly sized portfolios.
Advisors with higher fees may offer a number of justifications for why a client would still be better off paying the higher fee2. One such argument revolves around financial planning. The argument is grounded in the idea that by offering full-fledged financial planning, which may include help with trusts and estates, budgeting, tax preparation, and insurance, among other things, the advisor is delivering additional value that makes up for the extra fees.
The problem we see with this argument is that the math doesn’t really work in most cases. A client with assets of $1 million who is being charged 1% annually is paying $10,000 each year, or $2,500 more than an identical client who is charged 0.75%.
Even if we assume that the advisor who is charging 0.75% is providing no advice beyond pure investment management (we think this is unlikely, as we discuss below), the “break-even” level for delivering added value through extra services is $2,5000 annually.
If we further assume that the client paying 1% could access high quality planning services externally for $250 per hour, the client’s advisor would need to provide 20 hours of such services to justify the extra $2,500 cost3. While some planning work can be fairly in-depth, it seems unlikely that 20 hours is realistic in most cases. If it were, even an advisor working overtime would reach full capacity fairly quickly and with a relatively low number of clients.
Perhaps more important is the nature of the work. Most planning exercises are not recurring. A full-fledged financial plan is usually done as a one-time exercise and then consulted and perhaps modestly tweaked periodically thereafter. Similarly, setting up a trust, writing a will, performing an insurance analysis, and drafting an estate plan are generally also one-off events. The problem is that the asset-based fees are still charged each year regardless of whether the client is accessing the service. Realistically, what is the likelihood of a client using $2,500 worth of financial planning services each year for 5-10 years in a row?
Another question is whether accessing multiple services under one roof for a materially larger fee results in higher quality outcomes than could be achieved by hiring experts in each specific area. For example, is the firm that runs the investment portfolio really best suited to do your taxes or to provide advice on setting up a trust? Or would fully-focused CPAs and trust attorneys be a better option? The answer clearly may vary on a case-by-case basis, and it is likely that some advisors do great work in these areas. But if a dedicated expert can be hired on an “as-needed” basis while lowering overall costs, it seems at least worth considering 4.
A final point is that the advisor who focuses primarily on investments is probably going to provide some value beyond asset allocation for no additional cost. In practice, anything that is integral to, or impacted by, the management of the portfolio is almost by definition part of the service. Examples include helping clients plan their retirement distributions, tax management of capital gains and losses, setting up donor-advised investment accounts for charitable giving, etc. These issues, some of which do in fact recur each year, are a fundamental part of investment oversight and part of the service offered by One Day In July. We also communicate with our clients’ other service providers, such as tax preparers, to ensure that all necessary information is being communicated in both directions.
In the end, choosing your investment advisor involves a number of considerations around investment philosophy, fit, service and cost. However, like any such decision, an assessment of the value being received for the money being spent is an important element and should help to ensure that you do not end up “buying air.”
1. “The value of personal advice: Wealth management through the pandemic”; Kieran Bol, Patrick Kennedy, Ryan Lee and John Vervoort; McKinsey & Company, May 25, 2021.
2. Ironically, in our experience, better investment performance is usually not among them. 3. The hourly cost obviously varies by geography and by the complexity of the services rendered, so recalculate with whatever number makes sense situationally.
4. Admittedly, there is a convenience factor to “one-stop shopping.” Each customer has to decide what that convenience factor is worth in dollar terms.
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