A qualified investment advisor can help plan your finances efficiently, prevent costly blunders, make introductions to investors, and negotiate your deals.
Although there are many titles that could cause investor confusion there are essentially two categories: Registered Investment Advisors (RIAs) and Registered Representatives (RRs aka brokers). Registered Investment Advisors work in a fiduciary capacity and Registered Representatives do not. For those who are dually registered, you will want to know in what capacity he or she is working with you. Non-fiduciary earns commissions (or are fee-based) by selling products. A “fee-only” fiduciary (as opposed to a “fee-based” broker) is in a position of trust.
What do I need? Who am I dealing with? What’s their background? (If they have complaints or other marks you can find out on smartcheck.gov, brokercheck.finra.org )
2- Fiduciary or Not?
Do they work with me in a fiduciary capacity all the time? (especially if dually registered which can be confusing as “dually registered” means they are fiduciaries sometimes and brokers other times. It also means they can legally be compensated concurrently in different ways. Most investors do not understand the concept of “fiduciary”, its importance and legal implications.
Many Advisors could say they put your interest first, but they do it only “part-time” and adhere to a lower suitability standard because they work for firms such as some of the biggest firms on WallStreet, banks and brokerage firms that are not fiduciary. So it is important to ask the question from your advisor in writing “Are you legally obligated to put my best interests ahead of yours all the time?” “Will you be serving as my full-time fiduciary?”. Keep in mind that a CFP (certified financial planners) title does not necessarily mean he or she is working with you in a fiduciary capacity. See video at the end of this post to have a better understanding of the subject.
Beware of the new ‘Best Interest’ Contract Exemption (BICE Lite and BICE there are significant differences between the two) which could not be in your best interest (your financial Advisor may ask you to sign such a document soon to comply with the new Labor Department’s fiduciary rule.) However as discussed below in this article, many brokers want to keep their existing business practices, current fees arrangements and compensation structures so they will ask you to sign the BICE that will allow them to do so.
3- The Hidden Fees
How are they compensated? What is the total compensation?
You will want to ask the question the way I wrote it so they disclose to you, not just the fee or the commission but the total compensation. It’s service 101, you want to know how much you are paying.
Here is why; 2 reasons:
First, you will want to know if they are compensated by a third party to sell you a given investments products. Second, you will want to know the real cost of hidden fees.
According to an interesting Barron’s article titled: “When Fund Companies Pay to Play, So Do You”
“What is the pleasure of your company worth? It’s more than you think. For access to Morgan Stanley customers, a fund family must pay the firm at least $250,000, and up to 16 basis points (0.16%) of your investment in its funds.
The other big brokers love you, too. Wells Fargo pays up to 20 basis points for shelf space—a practice called revenue sharing; for UBS, up to 20 basis points; and for Merrill Lynch, a unit of Bank of America, up to 10 basis points. And there are extra payments. For $350,000 to $750,000, fund families can (and do) make special presentations to your broker and headline Morgan Stanley conferences. JPMorgan, Invesco, Goldman Sachs, and DWS Scudder have all done so in hopes that your broker might be predisposed to their funds when building your portfolio.” 
This is important because according to Personal Capital study “The real cost of hidden fees“ an average account of $500,000 held for 30 years would pay $500,000 to $1 million in fees. (From a high of $936,390 for Merrill Lynch to a low of $502,407 for USAA.) 
In addition, according to the Wall Street Journal, “Up to 11% of certified financial planners who work at big firms call themselves ‘fee only‘ when, by definition, they can’t be.” [2a]
4- The Risk You Are Taking
What risk am I taking? (In percentage and dollar amount)? You need to know your exposure, what if there is a market downturn? (which could happen due to several factors) The economist Andrew Smithers warns, “U.S. stocks are now about 80% overvalued.” It’s about managing the risk.
Do I have an Investment Policy Statement? – this is an important document that discloses all compensation and risks. It’s part of the fiduciary duty but most financial advisors are brokers who have no fiduciary duty. This means they don’t legally have to act in the client’s best interest.
Ask for and understand how your stocks are held: are they in your name or in “Street Name” meaning the firm’s name?
Most Brokerage firms hold the shares in their name because sometimes it is more convenient and may be more profitable, they can lend them to short sellers, or use them for rehypothecation (use them as collateral to borrow funds). (If you would like to know more sign up for my updates or email me)
Why is this important? If your brokerage firm goes bankrupt (companies as big as Lehman Brothers, Bear Stearns and many more did) and your shares are in “street name” you can lose all your assets held with them. When your stocks are held in your name, they will be given back to you.
5- The Fine Print
What do I have in Writing? Get the answers in writing because even if you read the fine print, you won’t know what to look for.
Two examples to illustrate this, even Hillary Clinton, was frustrated at Wells Fargo as a client of the bank herself. She stated: “And we should build on the Dodd-Frank financial reforms and go even further because Wall Street can never, ever be permitted to threaten Main Street again. And the Wells Fargo scandal sheds light on another threat to consumers that we have to address. When the scam’s victims, people like you and me, who had accounts there tried to sue, they were shocked to learn there was a provision in the very fine print of their contracts that kept them from going to court to sue the bank for being cheated. Instead, they are forced into a closed-door arbitration process without the important protections that you get in a court of law. We are not going to let corporations like Wells Fargo use these fine print “gotchas” to escape accountability.”
The second example about fine- print is related to many financial companies (Including many of the top WallStreet firm) who act as broker-dealers and because they are not necessarily acting in your best interest, the SEC requires them to add the following disclosure to your client agreement:
“Your account is a brokerage account and not an advisory account. Our interests may not always be the same as yours…We are paid both by you and, sometimes, by people who compensate us based on what you buy. Therefore, our profits, and our salespersons’ compensation may vary by product and over time.”
You have to know whether or not this disclaimer is in your agreement and where? If it’s the case, you will want to ask your advisor for a complete disclosure regarding compensation and where his or her loyalties lie before making a decision.
Even if your financial professional is in good faith and you trust him, he might not understand the implications of what I just described fully.
Many didn’t know that their companies were going to go out of business (Lehman Brothers, Bear Sterns), how can they?
Many others financial professionals didn’t know that the companies they work for were investing with fund managers such as Madoff or even if they knew, they never imagined that Madoff was a fraud, that all the money will disappear overnight, and that their clients will be left holding the bag.
That’s why it’s important to have this in writing because even if your financial advisor is in good faith and tries to do the right thing, there are things outside of his control.
Why is the fiduciary duty critical? A fiduciary is legally required to put clients’ interests ahead of their own and must disclose any conflicts that interfere with placing the client’s interests first. A violation of fiduciary duty is serious, and you can sue to recoup, your losses based on that if you have it in the agreement, if not you can’t.
That is exactly what NY Attorney General Eric Schneiderman successfully did on behalf of some of Madoff’s defrauded investors and was able to recover a portion of the money and in some case the majority of their Investments.
Under the fiduciary duty, an investment adviser is required by law to provide full disclosure of how they are compensated. This is important because most people don’t understand the danger of hidden or undisclosed fees that can compound to a large amount over the years.
So you can visualize this; imagine Oscar and Tara, both with a current 401(k) account balance of $100,000 and 30 years until retirement. They have the same Investment Annual Rate of Return of 7%. The only difference is Oscar is paying 3% in fees and Tara 1%.
So you can see how only 2% difference in fees can affect your returns and the power of compound interest: At retirement, Oscar will have $305,257, and Tara will have $563,079.
Oscar would have paid $257,822 more in fees. This is significant especially that the average fee for a taxable account is 4.17% and the average fee for non-taxable (qualified) account 3.17%.
According to the US Department of Labor’s, there are at least 17 different types of fees that can be charged to your 401(k). Over a lifetime, the average American family pays $155,000 in 401(k), which consume nearly one-third of their investment returns according to the economist Robert Hiltonsmith. Wouldn’t you want to know what you are paying exactly?
However, the new Department of Labor fiduciary rule could help create a better retirement system that works for everyone and save us billions as the White House estimates that the annual cost of conflicted advice is about $17 billion a year.
“For Americans who are doing the hard work of saving for retirement, let’s make sure that they get a fair deal.” President Barack Obama, White House Conference on Aging, July 13, 2015
Be careful with the ‘Best Interest’ Exemption. “If the advisor is only a part-time fiduciary, the firm will ask you to sign what’s called a Best Interest Contract (BIC) Exemption. It’s a contract, and the gist of the exemption says this: “I’m a fiduciary… except when I’m not.” Do you really want to give your advisor an exemption from acting in your best interest?”
6- The Financial Check-Up
Losing your life savings are often one-time events, once it’s gone, it’s gone. Prevent it because when it happens, it’s too late. Fiduciary is a start but not enough, check and stay on top of everything. What you don’t know can hurt you. There is no reason to panic, just educate yourself and stay on top of your finances.
Visit www.investor.gov; a website by The SEC’s Office of Investor Education and Advocacy, Investor.gov will help you invest wisely and avoid fraud.
This is my job; I educate my potential clients first. I start by offering them a Second Opinion and a Financial Check-Up (www.samalaoui.com/financial-checkup/) of their current situation. I answer the important questions for them.
First, we gather the data, and we take the time necessary to understand your big picture. Second, we analyze your current situation; where you are and what you are trying to achieve in the future. Only then we will be able to give advice.
When was the last time you had a Financial Checkup? Call me @ (212) 852-0242 or email me @ Sam@samalaoui.com.
Full disclosure: Sam Alaoui operates as a fee-only registered investment advisor with a fiduciary responsibility to act in his clients’ best interest. I only compensated by his clients. I believe this structure best positions us to objectively consider all investments and ensures that my goals are properly aligned with those of our clients.
Take a look at this intersting video made by Hightower on the subject:
(Updated 11-15-2016) This information is provided for general information only, and is not intended as personalized investment or legal advice. Reading the above is in no way intended to be a substitute for individualized investment advice, and no conclusions should be drawn from this information regarding any potential investment. Reproduction or distribution of this material is prohibited and all rights are reserved.