5 Critical Questions That Will Change Your Financial Future

By Robert Brokamp, CFP

The greatest fear of every investor is running out of money in retirement.

It used to be that individuals could rely on long-term, full employment, pensions, Social Security, and their investments in order to retire.

They could enjoy pursuing hobbies that years of hard work had allowed them; they could send their kids off to school and take care of their spouses and their elders.

They left their families with an emotional legacy that was made possible by years of making smart financial decisions.

It's all too easy these days to make the wrong decision or end up in difficult financial times — despite years of hard work and earned income.

These days, the investing landscape is so much more complicated. Laws, regulations, and tax codes are constantly changing. There are more products and services to consider than ever.

And there are more people — advisors, planners, bankers — vying for your money, all promising you fantastic returns, while most end up underperforming the market AND your expectations.

Just consider that, in general, financial advisors and brokers invest heavily in actively managed mutual funds, and in 2011 alone, 84% of these funds underperformed the market. In 2012, a great year for the market, 80% of large-cap value funds also underperformed the market. That means the average investor is paying fees for investment advice that is underperforming the returns they could have earned for free with a simple market index fund.

So have you ever wondered, as I have, what makes the difference in people's lives? What are the decisive factors that lead them toward a good retirement or a personal tragedy?

The difference is the ability to sort through the noise of Wall Street, of mainstream media, of pundits and commentators — and take the most factual and transparent advice possible. The difference is taking advice from people who care — and who have a track record of doing so.

For years and years you've been successful in your endeavors, making smart decisions for both yourself and for your family.

So if you've been in the driver's seat with your finances for all this time — why take your hands off the wheel now?

With the help of our brand-new report, it only takes the next five minutes to quickly assess the status of your own situation. And to  ensure that you don't fall into any of these thousands of financial "traps" in the future.

Simply ask yourself the 5 Critical Questions That Will Change Your Financial Future.

If you can't answer "yes" to these five fundamental questions, then you may be in more trouble than you think.

So let's get started! You may even want to read these important questions aloud.

#1. Do I understand how my financial manager is being compensated? This includes fees, commissions, and the way that those expenses directly affect my returns.

Most financial relationships are based on a "broker-dealer model," where a financial advisor gives you advice in return for commissions, fees, and other payments resulting from financial transactions.

Unfortunately, there are several conflicts of interest in this model — conflicts that cost investors like you thousands of dollars every year.

And that's because most advisors are not taught, nor trained professionally to manage your money; rather they're taught to gather assets.

The more assets they've accumulated from you, the more fees they collect, the more transactions they can create, and the more revenue they create for their firms. Sounds kind of vicious, doesn't it?

The problem is deep and systemic. The advisors are compensated this way because the financial industry's business model has operated this way for over 150 years. Even the best-intentioned financial advisor at these firms can grow his or her wages only by operating within this broken system.

So the problem is that with a straight-commission model, advisors are motivated solely to sell you MORE services and products — regardless of whether or not it's in your best interest.

In the broker-dealer world, the brokers who generate the most revenue are considered the "top producers" -- and a producer is all about product. There's no term for "broker who gave the best advice" or "broker who achieved the best returns for his or her clients."

And that's not all. Some firms, instead, charge you based on an AUM (assets under management) model, which really isn't that beneficial for the average person.

Unless you're a jet-setting, high-flying millionaire with gobs of cash to throw around, you are probably prudent with your finances and thus should be wary of, or at the very least cautious about, the AUM model.

Typical charges in the industry range from as little as 0.5% to as much as 2.5% — but you might be surprised to discover it's the "little guy" who pays the most. As you can see from the graphic below, clients with more than $10 million in net worth pay the least, while clients with less than $750,000 pay the most.

Advisory Fee by Client Assets, Q4 2011

In this scenario above, if you have $750,000 of assets, you're most likely paying around $9,400 per year — in addition to any extra fees and expenses from funds and ETFs that your advisor may have you invested in.

If you have $1 million of assets, you're most likely paying around $12,500 per year — again, not taking into account additional fees.

This is an incredible amount of money to pay. Especially when most investors feel much less satisfied with their advisors than they should.

Only 14% of high-net-worth individuals consider themselves "loyal" to their financial advisors; while on the contrary, over 75% of advisors perceive their clients as being loyal.

The great discrepancy between advisors and clients such as you illustrates the great divide between expectations. And how advisors are compensated is only a sliver of how to evaluate your client-advisor relationship.

This brings us to the next critical question you should ask yourself...

#2. What is the logic behind every single one of my broker's recommendations?

Every year your financial advisor will keep you abreast of financial conditions, political conditions, macroeconomic conditions, and industry-specific conditions — what is commonly referred to as utilizing a "top down" investing philosophy.

Sounds helpful, right? You want to be informed of the factors influencing the markets.

However, they will also use these themes to buy and sell securities on your behalf, making a great number of trades every year.

You will frequently find your advisor touting the next "hot" industry or figuring out ways to explain to you why you should switch your bond allocation or increase your exposure to the global markets. Again — this is all in the name of generating extra fees — fees you mostly don't see.

Just consider that in one week — Oct. 21 to Oct. 24, 2013 - individual investors pulled $1.6 billion out of emerging market bond funds due to a shift in "investor preference", according to The Wall Street Journal.

Advisors and brokers alike get wind of the news — and urge their clients to buy and sell, buy and sell, rinse, repeat.

So what if I told you that you were losing 40% in returns each year due to fees?

You'd probably call me crazy.

Unfortunately, if you have a "moderate risk tolerance" (which most average, 45- to 65-year old Americans do), then you are probably already losing that much every single year.

Let's say that your portfolio manager has you invested 60% in global equities and 40% in investment-grade bonds (quite typical if you have "moderate risk tolerance").

Before costs, this could, on average, generate an average return of about 5.3%. Yet when you consider the average expense ratio for a global equity fund is about 1.2% and a bond fund will cost about 0.9%, the costs add up. Then pile on your advisors AUM fee of say, 1%, and you have a total cost of 2.1%.

Divide that by your return of 5.3% and your return has been chopped by 40%.

Considering that mind-boggling expense — can you really answer question #2?

Are you really getting clear, transparent, and real-time explanations of what your broker or advisor is recommending? Are you comfortable with their decisions now that you understand the costs associated with them?

Imagine if every time your advisor made a recommendation, you received a clear, thorough, and well-articulated reason for the recommendation. Imagine if your advisor let you talk and chat online with all of his or her other clients — so that you could leverage the intelligence of thousands of people in the same boat as you — to make the best possible decisions for yourself.

Once you imagine a scenario such as that, where you are actually comfortable with all the decisions being made and all the recommendations being offered, it's important you ask yourself this critical question.

#3. Am I confident that I'm being offered the investment products that will best serve my own interests?

Unfortunately, it's hard to be sure that you're being offered the most diverse group of products — personalized exactly for your financial situation. Advisors, especially those paid by commission, are incentivized to sell funds that will put more money in their pockets.

These funds — which often come with "front-end load" fees, — line the pockets of advisors and take money out of yours.

Here's how: Most firms have "preferred" mutual fund partners. This means they have deals with specific mutual fund providers to sell their funds in exchange for a revenue-sharing agreement.

In other words, an advisor could get a $1,300 "bonus" every year he has your $1 million portfolio stashed in Goldman Sachs mutual funds — yet he'd receive no such bonus for investing that money into low-cost Vanguard funds. Which funds do you think that advisor is more interested in selling?

Recently, Edward Jones, one of the largest, high-profile broker-dealers in the U.S., admitted that it had an enormous conflict of interest.

"We want you to understand that Edward Jones' receipt of revenue-sharing payments represents a potential conflict of interest in the form of additional financial incentive and financial benefit to the firm, its financial advisors and equity owners in connection with the sale of products from these partners."

It's great that the firm admitted to its conflict of interest AND paid the SEC a $75 million fine — but it certainly hasn't changed its behavior moving forward.

In fact, the firm went on that same year, AFTER that bold statement, and collected over $160 million in 2012 from mutual fund and 529 product partners in the form of "revenue sharing."

And it's not as though that information is easy to find — it's about six clicks deep on Edward Jones's website, where you have to hunt and peck for hours and then read a small-print PDF that explains these various partnerships or "conflicts of interests."

Considering this is an incredibly common practice within the financial industry, it's hard to be sure you are ever really being offered the best possible product — fit exactly for your personal financial situation.

Which begs the next question you should be asking about your broker...

#4. Am I enthusiastically encouraged by my broker to understand my portfolio strategy and the decisions that go into achieving that strategy?

Your overall portfolio strategy should be based on a number of factors that are either directly relevant to you or that are relevant to your investments.

Your advisor should talk with you to determine the 3 Key Components of Your Portfolio Strategy:

  1. Time Horizon: How long do you need your money to last, when will you start to make withdrawals on your portfolio, and do you foresee any significant distributions from and/or contributions to your portfolio in the future?
  2. Risk Tolerance: How risk-averse or tolerant are you? Some people can stay calm if their portfolio drops by 30% over the course of the year; others won't be able to sleep a wink.

    Figuring out where you fall on the spectrum is important because it not only will dictate your investing strategy, but it will also ensure that you concentrate on what matters most to you (family, hobbies, retirement) — instead of constantly worrying about your portfolio.
  3. Current Portfolio: There is no way to develop a new portfolio strategy without considering what assets you have now, where those assets are located, and what the implications are for changing course.

    Maybe you are overweight in a specific industry because you have special knowledge of that industry — and that's OK. Maybe you lack equity exposure to real estate because you own several pieces of property — and that's also OK. But it's impossible to paint a new picture without evaluating the old one.

In addition, it's important that a broker talks to you about external factors of influence including inflation and tax planning.

Not because you need to learn about them in order to switch in and out of products and generate more fees for your advisor, but because it's an important part of developing the 3 Key Components of Your Portfolio Strategy.

Consider for a moment the immense impact inflation has on your investments — as inflation rises, your purchasing power decreases and thus the value of your investments erodes unless they keep pace with inflation.

The chart below shows what $1,000 today will look like, in 5, 10, or 25 years with varying degrees of inflation.

Decline in Purchasing Power Over Time

You may currently consider inflation an afterthought because interest rates are so low and the Fed has quadrupled the size of its balance sheet in order to spur growth — but that can't last forever.

In fact, as recently as last month, Fed Chairman Ben Bernanke said that inflation was "too little" and that the Fed would have to work to ensure that inflation doesn't decline too much.

But inflation can be crushing if your investments don't keep pace — which is almost impossible in high inflationary times. In the past 40 years of our lifetimes, particularly in the late 1970s and 1980s, inflation ran rampant and reached a high of over 14%.

Consumer Price Index

So clearly, having a good sense of the macroeconomic outlook is additive — it helps you take all things into consideration when creating your own strategy.

Just be sure it is not driving your advisor to unreasonably transact on your behalf.

On the contrary, make sure your advisor has the ability to guide you not only on investment decisions but also on more "big picture" decisions, such as tax planning, estate planning, risk management, saving for college, and much more.

For example, many advisors/brokers dont' consider your entire financial picture; they only advise on what they can charge a commission or 1.5% a year. They don't have a financial incentive to help you decide whether to pay off your mortgage, choose a lower-cost 529 plan, analyze your employee benefits, or evaluate the investments in your 401(k).

And maybe even most important, your advisor may not care how much you pay Uncle Sam. Many advisors don't practice smart asset "location" — putting the right investments in the right types of accounts in order to lower your tax bill. Some investments can be a tax nightmare if kept in a regular, taxable brokerage account. We're talking high-yield stocks and bonds and high-turnover funds — investments in which Uncle Sam gets to share your returns each and every year, and at ordinary income tax rates! These should be kept in an IRA or a 401(k), though I've seen many, many advisors ignore this crucial aspect of tax-efficient investing.

Then there are investments that have built-in tax advantages, such as stocks that don't pay dividends and that you'll hold for several years — decades even. You won't pay any taxes until you sell — it's a whole other form of tax-deferred growth — and when you do sell, you'll pay long-term capital gain rates (assuming you made a profit), which are lower than ordinary income rates. For investments outside your IRA or 401(k), these are the ideal investments. Yet, many advisors/brokers have it the other way around.

If your advisor cannot — or just isn't making these recommendations for you — it could be a symptom of a much larger problem, which brings us to the next critical question you should ask yourself...

#5. Are there a substantial number of people — in addition to my broker — that is working hard to ensure that my retirement goals are being met? Am I getting the level of attention I expect?

When surveyed, most people with portfolios between $500,000 and $5 million are not satisfied with the level of attention they receive from their financial advisors or brokers — which helps explain why only 13.8% of clients are loyal to their advisors.

Oftentimes advisors reach out to clients for only two reasons:

  1. Sales: They want to sell you additional products such as equities, derivatives, hedge-funds, managed accounts, mutual funds, life insurance, long-term care insurance, or annuities. After all, the more they sell you, the more money they make — of course they are going to try to be great salespeople!
  2. Prevention: When the markets sour or your portfolio hits the floor, you can bet you'll be receiving a phone call. Your advisor has every incentive to keep your assets and your business, so as soon as things go poorly (which they often do), they are quick to pick up the phone to try and reassure you that everything is OK. Or — even worse — that they have a new strategy that entails additional buying and selling (fees, fees, and more fees!).

It's great that your advisor reaches out to you — and certainly everyone appreciates a phone call or an annual meeting. But what if, instead, you were in constant connection with your advisor and your money? What if, instead, you had access to an entire team of analysts and advisors whose entire job it was to scour the market for the very best investments — and then to use those insights to create specific recommendations, personalized just for you?

Are you ready to stop worrying about your wealth... so you can start enjoying it instead? We're here to help...

If after reflecting on these five questions you realize you may not be getting enough of the right kind of attention from your financial advisor...

Or you're ready to stop having to worry about things like hidden fees and expenses... taxes... estate planning... and how to properly balance your portfolio so it is tailored exactly to YOUR needs, please be sure to keep an eye on your inbox  for more important information and eye-opening reports like this one from The Motley Fool.

Over the coming months, we'll be focusing intently — and working tirelessly — on helping independent-minded high-net-worth investors conquer all the challenges that inevitably come with success.

And we'd like nothing more than to show you easy, cost-effective, and worry-free ways to put all the headaches that come with great wealth behind you so you can start looking forward to all the advantages that hard-earned money can bring you.

Let's face it, you’ve already achieved so much and come so far — and you deserve to be able to stop worrying about what your success has brought you... and start enjoying it instead.

We're here to help, and we look forward to working closely with you.

Yours for a bright financial future,

Robert Brokamp

Robert Brokamp, CFP

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