How do financial "advisors" get compensated

[jfoxcpacfp]

Wow, this is a great article by Wade Pfau explaining how various financial "advisors" are compensated. Simple, succinct, and logical. Probably a lot of information you already know, but it summarizes everything essential in one piece.

[AlexxT]

That article is a good start.

However, the problem with that article is that it still doesn't really help the consumer to distinguish between fee only and fee based RIAs.  I have seen websites for RIA firms that are touting their proprietary funds.  Since we both know that index funds will give higher returns, they are clearly selling these funds because they earn commissions on them.  I don't see any way for an investor to distinguish between RIAs who are fiduciary all the time, and those who are not, or when the hats get switched, unless they know enough to be able to invest on their own.  If I understand the new DoL fiduciary standard correctly, even those minimal protections can be signed away by the unwitting investor in a pile of paperwork.

[jfoxcpacfp]

AlexxT wrote:

That article is a good start.

However, the problem with that article is that it still doesn’t really help the consumer to distinguish between fee only and fee based RIAs.  I have seen websites for RIA firms that are touting their proprietary funds.  Since we both know that index funds will give higher returns, they are clearly selling these funds because they earn commissions on them.  I don’t see any way for an investor to distinguish between RIAs who are fiduciary all the time, and those who are not, or when the hats get switched, unless they know enough to be able to invest on their own.  If I understand the new DoL fiduciary standard correctly, even those minimal protections can be signed away by the unwitting investor in a pile of paperwork.

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Would you mind passing along the website(s) you're speaking of? I would be very interested in following up. Yes, it is difficult to tell the difference, which is why I hoped the article would be helpful. I doubt we will ever see a clear differentiation. Just as I have to read the labels on food and understand what I am buying for my family (very confusing terminology that makes sugar-laden foods sound nutritious, for example), so the burden is on the consumer to do his/her homework when seeking financial advice. Fee-based and Fee-only each mean something. The information is available for the conscientious consumer who bothers to look. Fool me once, shame on you, fool me twice, shame on me. Let's at least put some of the responsibility where it belongs.

 

[jfoxcpacfp]

AlexxT wrote:

Since we both know that index funds will give higher returns,

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btw, where did you ever get that notion? While I use index funds, I've never made and never will make such a blanket statement.

[AlexxT]

jfoxcpacfp wrote:

btw, where did you ever get that notion? While I use index funds, I’ve never made and never will make such a blanket statement.

You don't have to make a blanket statement if you don't want to.  Just tell me in advance which actively managed funds are going to outperform the S&P 500, or their benchmarks, over the next 1 or 5 or 10 or 20 years.   After expenses, typically 85% of mutual funds under-perform the S&P 500 in any given year.

As for hedge funds, Warren Buffet's million dollar bet on the S&P 500 vs hedge funds has him way ahead.

 

http://www.nytimes.com/2015/03/15/your-money/how-many-mutual-funds-routinely-rout-the-market-zero.html

 

http://www.nytimes.com/2015/08/22/your-money/pension-advisers-learn-the-folly-of-trying-to-beat-the-market.html

[jfoxcpacfp]

AlexxT wrote:

jfoxcpacfp wrote:

btw, where did you ever get that notion? While I use index funds, I’ve never made and never will make such a blanket statement.

You don’t have to make a blanket statement if you don’t want to.  Just tell me in advance which actively managed funds are going to outperform the S&P 500, or their benchmarks, over the next 1 or 5 or 10 or 20 years.   After expenses, typically 85% of mutual funds under-perform the S&P 500 in any given year.

As for hedge funds, Warren Buffet’s million dollar bet on the S&P 500 vs hedge funds has him way ahead.

 

http://www.nytimes.com/2015/03/15/your-money/how-many-mutual-funds-routinely-rout-the-market-zero.html

 

http://www.nytimes.com/2015/08/22/your-money/pension-advisers-learn-the-folly-of-trying-to-beat-the-market.html

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I don't know and neither do you. That's the point.

[AR]

jfoxcpacfp wrote:

AlexxT wrote:

jfoxcpacfp wrote:

btw, where did you ever get that notion? While I use index funds, I’ve never made and never will make such a blanket statement.

You don’t have to make a blanket statement if you don’t want to.  Just tell me in advance which actively managed funds are going to outperform the S&P 500, or their benchmarks, over the next 1 or 5 or 10 or 20 years.   After expenses, typically 85% of mutual funds under-perform the S&P 500 in any given year.

As for hedge funds, Warren Buffet’s million dollar bet on the S&P 500 vs hedge funds has him way ahead.

 

http://www.nytimes.com/2015/03/15/your-money/how-many-mutual-funds-routinely-rout-the-market-zero.html

 

http://www.nytimes.com/2015/08/22/your-money/pension-advisers-learn-the-folly-of-trying-to-beat-the-market.html

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I don’t know and neither do you. That’s the point.

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Well that's kind of a silly semantic point, if that's what you're trying to say.  It's obvious what Alex was saying is that the expected return of an index return is higher.  Is it guaranteed to be actually higher?  Obviously not.  But the odds are overwhelmingly likely it will be and those are the odds that one should use to guide his investment decision.

What you're saying would be analogous to me saying you don't know what the return on a treasury bill will be because it's possible that the US could go bankrupt prior to maturity and you will get paid nothing. Is that likely to happen?  Of course not.  Is it less likely to happen than an actively managed fund beating its benchmark?  Sure.  But at the end the day you still don't know that you will get paid with absolute certainty.  But the odds are overwhelmingly likely that you will and that's the important factor that should guide investment decisions.

So while you are technically correct in one sense, it's not a particularly useful way to look at the issue.

[YYjames]

Good discussion

Is there a landmark study that proves the superiority of index funds to everything in the stock market ? I just want to read it and analytically explore the conclusions

Thanks

[AlexxT]

YYjames wrote:

Is there a landmark study that proves the superiority of index funds to everything in the stock market ? I just want to read it and analytically explore the conclusions

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There are many studies, year after year, but I don't know if any of them would be considered "landmark".  While some funds beat the index before fees, the fees typically take away any advantage, and more.

Just google "index funds vs actively managed".  Please let us know if you find a study you consider definitive.  You can also read the articles I cited above.

An anecdote, in lieu of data:  Per the Wall Street Journal from Sept 2014: Bill Gates held a banquet in honor of  his investment manager for consistently beating the S&P 500 by 1% a year.  Now, deduct typical mutual fund fees, AUM fees, and/or hedge fund fees from that 1%, and you'll be below the index fund.

AR wrote:

Well that’s kind of a silly semantic point, if that’s what you’re trying to say.

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Thanks for replying for me.  That's almost exactly what I would have said, but lately, I'm trying to let other people have the last word.