Kitces: The 5 Most Important Traits Investors Should Look For in an Advisor

What You Need to Know

Buckingham Wealth Partners’ Michael Kitces took to Twitter to discuss what questions prospective clients should and shouldn’t ask of a potential advisor.
Kitces offered up 5 things investors should be looking for, noting they are “what I’d tell my mother if she had to find a financial advisor alone after I’m gone.”

There are several useful questions prospective clients can ask an advisor before selecting a financial expert but one of them is definitely not “What percent return should I expect to get if I hire your firm?” says Michael Kitces, head of planning strategy at Buckingham Wealth Partners.

Kitces pointed out, at the start of a long Twitter thread on Sunday, he was just asked that exact “infamous (for advisors) question that prospects often ask.” In reaction, Kitces said he was “feeling compelled to take a few minutes [and] explain why this is NOT what any consumer should ever ask when trying to vet a financial advisor.”

So, why is that such a bad question? “The reality is that returns are determined by the market, not the advisor,” he explained. “At best, an advisor may say they can beat the market BY a certain amount (1% or whatever?), but that’s still relative to whatever the market turns out to deliver.”

For example, the market may deliver 15%, and an advisor may get anywhere from 6% to 16%. “But whether the market returns 5% or 15% or -20%, the truth is no one knows for any particular year,” Kitces tweeted.

“At best, some market fundamentals can give guidance over the next 5-10+ years that returns will be better (above-average) or worse (below-average), but even brilliant managers fail to beat the market routinely in any particular year (b/c no one knows year to year),” he added.

Why It Matters

Kitces recalled a prospective client who had asked this question back in 2004, “when real estate was booming but rates were really low and valuations were already getting high.” The response from an advisor at his firm was that 6% to 7% was all that could be expected over 10 years, he said.

A second advisor, however, told the prospect he’d get 8% returns, so the prospect picked this rival firm instead because, after all, “8% beats 6%,” he noted. It’s really that simple, right?

Well, no, it’s not. Kitces pointed out it “really was a low-return environment” that year, “so 8% was only achievable w/ concentration in high-dividend #FinServ preferred.” Then, “barely 4 years later, along comes the financial crisis” and about 30% of that investor’s portfolio was in Lehman preferred, Kitces noted.

The investor “got the promised 8% yields for 4 years… until nearly 1/3rd of his portfolio lost 99% in a few weeks when Lehman went under,” Kitces said. Because the investor “evaluated advisors by their promised returns, he picked the one w/ the highest %-return promises that really just gave the riskiest portfolio,” he added.

The “key point is that, especially in low-return environments, asking advisors what returns they can get pulls you away from ‘good’ advisors w/ realistic advice about low returns, & skews towards those who overpromise & then dial up risk trying to make good,” he tweeted, which, he added, is “NOT good.”

So What Should Investors Look For?

When vetting a financial advisor, there are five specific things Kitces said that investors should be looking for, noting they are “what I’d tell my mother if she had to find a financial advisor alone after I’m gone.”

1. Incentives matter.

“Most ‘financial advisors’ are legally salespeople, not advisors, paid for products they sell (commissions) rather than the advice they give (fees). And when you’re paid to sell hammers, every problem looks like a nail,” Kitces said. Therefore, he advised: “Seek out a ‘fee-only’ advisor.”