Fee-only is different from fee-based... period, and don't let your fee-based advisor tell you any differently (and they'll try). I recently talked with a stock broker from Raymond James Financial (of course he called himself an advisor) who wanted to split hairs in an effort to get me on board with the idea that someone such as himself was really the same as a fee-only advisor. Baloney!
I politely explained to him that only a firm that gets paid solely by the client, and not by a third-party, can legally claim to be a fee-only advisor. He looked a bit puzzled and asked me what I meant. I said it was really quite simple. A fee-only advisor doesn't accept money from anyone other than their client. A fee-only advisor works for their client and their client only. When I asked him if the many mutual funds he sells his clients pay him a sales commission (a loaded fund) he reluctantly admitted that they did. Bingo! Major conflict of interest since the advisor now has a vested interest in selling you products that will make him money, paid to him by a third-party, rather than products that are in your best interest.
Fee-only, independent advisors registered with the SEC can claim fiduciary status; the manufacturers and sellers of financial products (mutual funds, variable annuities etc.) can not. In the words of Evan Cooper of InvestmentNews, "the providers of products and advice (whether known as brokers, representatives, financial consultants, financial advisors or any other title that connotes investment advice-giving) must recommend only those products that are suitable for a client," (a much looser standard that does not require the client's best interests to be placed first.) Mr. Cooper goes on to write that, "Wall Street wants to keep the suitability standard as long as it can, because it permits principal trades. If a brokerage firm can sell a bond from its inventory when a client comes in to buy, it's a lot more profitable for the firm than having to shop the order among other dealers to get the best price. There's a lot of money to be made by the brokerage business by putting the broker-dealer ahead of the investor."
Not a problem you say to yourself? You don't buy bonds from your fee-based advisor? How about stocks? Your boy gets a commission every time you buy one of his recommendations, incentivizing him to sell you stocks, whether it is in your best interest or not. And how about those front-loaded, high operating cost, 12b-1 mutual funds that are still so prevalent in the industry? Your boy gets paid every time you pony up your hard earned money to make an investment in an average performing fund that almost certainly has a no-load, lower operating cost alternative. I mean for crying out loud! There are something like 10,000 mutual funds out there now, more funds even than stocks.
Want to know the saddest part? The academic evidence overwhelming shows that no one can pick a mutual fund that will outperform its peer group a priori (in advance), which means that everyone should be focusing on costs and tax efficiency when it comes to mutual fund selection. That's right, all of those so-called advisors out there who tout their ability to put you into the best performing mutuals funds are full of you know what. The fact is (and it is a fact) that the top twenty performing mutual funds from the prior five-year investing period will not be the same top twenty who outperform over the coming five-year period. In fact, few if any names will repeat.
Oh, and one last pearl of wisdom from Mr Cooper of InvestmentNews that I couldn't agree with more, "The rules should be crystal clear. If you are licensed to give financial advice in any way, shape or form, you must put clients' interest first. If brokerage firms (and fee-based advisors) can't comply, let them reorganize themselves, or label their advice as sales promotion."
Amen!
