“You can’t even trust your mama’s advice, ’cause she might be jivin’ too.” -Unknown
Most financial advisers are ethical and they try to do what’s best for their clients. They sincerely want you to do well because that will keep you coming back to them as your nest egg grows.
As with any profession, however, there are bad actors who don’t always do the right things. There are a few financial advisers out there who place their own interests before yours and view your resources as nothing more than an income stream for them.
There are also advisers who genuinely believe they’re doing what’s best for you but are actually making decisions loaded with conflicts of interest, such as putting your money in good (but not great) investments for which they earn a nice commission.
There are some simple steps you can take to separate the good advisers from the bad ones. These steps are not foolproof, but they will take you a long way if you’re willing to use them.
1. Pay attention to what your adviser focuses on. Good ones will focus on you, not themselves or the investments they’re selling. Every recommendation an adviser makes should be based on your personal situation.
If your adviser simply says that the investments he’s recommending are “good” without explaining why those investments are good for you, that’s a red flag.
2. Ask about their fee structure and how they make money. Obviously, every financial adviser is entitled to earn an income, but there are many ways for a financial adviser to earn a living while still keep your best interests before their own.
Financial advisers have several options for earning income. Some are commission-based, meaning they earn money based on the clients they refer to particular investments. Other advisers are fee-based, meaning they earn money by charging you either a flat fee or a percentage of the investments they manage.
Even among fee-based advisers, some are bound to a fiduciary standard, meaning they must put your interests first, while others are only bound to a suitability standard, meaning they’re only required to make suggestions that are consistent with your best interests. Don’t be too impressed by these behavior standards, because they are rarely enforced. Your adviser should be able to quickly explain which of these types applies to him or her.
The methods by which the adviser makes money should be very clear to you. If you don’t understand how the adviser makes money after asking him or her, that’s another red flag.
3. Ask why this investment option is the best one. If your adviser makes a firm recommendation and hasn’t clearly explained why that recommendation makes sense, it might just be a communication mistake.
Ask what exactly makes this investment worthy of his or her recommendation. A good explanation should involve your situation and it should make logical sense to you. If the adviser starts using industry jargon you don’t understand, then you may have a problem.
4. Take careful notes and ask follow-up questions. When you meet with your adviser, come prepared to actively participate. Take notes on everything the adviser tells you, especially anything involving specific investments.
If your adviser recommends a low-rated or otherwise questionable investment, that can be a red flag, but it’s not a definitive sign. You should ask follow-up questions on anything that sets off a red flag.
You’re never obligated to follow the advice of a financial adviser. If the situation seems wrong after following these steps, trust your judgment. There are many good advisers out there. Set up a meeting with a different one and be prepared to move on. You don’t have to file a complaint, or report your adviser to anyone, unless you think the problems are serious.