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By Christine Benz and Jeremy Glaser | 02-16-2017 01:00 PM

The Best Ways for Smaller Investors to Get Advice

Christine Benz lays out four options for smaller investors amid uncertainty about how the fiduciary rule will impact advice.

Jeremy Glaser: From Morningstar, I'm Jeremy Glaser. As the Trump administration asked the Department of Labor to reconsider its fiduciary standard rule, one of the key objections is that it will reduce the advice available to smaller investors. I'm here today with Christine Benz, she's our director of personal finance, to look at why that could be the case, and some other options for smaller investors to get advice. 

Christine, thanks for being here.

Christine Benz: Jeremy, great to be here.

Glaser: Let's start with what this objection is. Why is there a sense that advice to smaller investors will be less available if this rule is to be implemented?

Benz: Well, I think that the basic idea is that smaller investors could be left somewhat betwixt and between. If, under a fiduciary standard, you have more and more advisors who want to get away from the commission model--and Merrill Lynch for example is a firm that has very much been moving in this direction--they want to get away from the commission model and transition investors to charging them based on their assets under management, that some of these small investors might be too small in terms of the assets that they have to manage to charge this annual fee upon that some advisors might just say that they don't want to serve them. A typical threshold for advisors who charge based on assets under management is a million dollars. Some advisors have even higher minimums than that. The basic idea is that small investors would be shut out of any type of financial advice.

Glaser: Let's look at some other options then to get financial advice if this rule does change the landscape. The first is target-date funds.

Benz: Right, and this is sort of the most low-fi option available for investors in search of some type of advice, who don't have a lot of assets to manage. Target-date funds, as I'm sure everyone watching knows, are products that are kind of "set it and forget it"-type products. They have premixed asset allocations that are based on your age, and then they gradually become more conservative as you get close to that target date, to your retirement date. The nice thing about target-date funds is that they don't typically charge any fees for that asset allocation guidance. You'll pay investment fees for the specific investments that are in the portfolios, but you won't pay for that overarching asset allocation guidance.

That is a big advantage for these products. They can be really sensible options for beginning investors who don't have a lot of complicated things going on in their financial lives, or even older investors who still don't have a lot of complicated things going on in their financial lives. A couple of the drawbacks is that if you--the first is that if you are going with a target date fund, you're typically going to have to stick with the house brand of funds. Those are the products that target date funds typically use, so if you're looking at a Vanguard target-date fund, it's going to be all Vanguard funds, Fidelity's will be all Fidelity's funds and so forth. That's a potential drawback.

The other big drawback, and this is one that advisors are very quick to point out, is that investors are all different, so you might have two 35-year-olds with pretty dramatically different things going on in their financial lives. For one, maybe the target-date fund is exactly the right choice, for another one, maybe someone whose spouse has something complicated going on in his or her investment portfolio, or someone who has a lot of company stock ownership for example, maybe the target-date fund won't be the right answer. Those are a couple of the drawbacks.

Glaser: The next option, the so-called robo-advisors, the automated advice providers. Tell us a little but more about this.

Benz: Robo-advisors offer a level of customization above and beyond what you would get with an off-the-shelf product like a target-date fund. Based on some information that you provide the robo-advisor about your financial life, about perhaps other investment assets, you are given a customized investment mix. That can be a positive in certain situations. Another area where, to date, robo-advisors have really distinguished themselves is in the realm of tax management. If you are asking the robo-advisor to provide you with some asset allocation guidance, some investment guidance on a taxable account, that robo-advisor may help identify tax loss candidates. It may help you find places where you, if you're in the 10% or 15% income tax bracket, where you may be able to harvest capital gains. They may be able to help you if you are looking for advice on a taxable portfolio.

A couple of the potential drawbacks with a robo-advisor--one is that the robo-advisor really typically won't give you a lot of advice on other aspects of your financial life. Maybe your big headwind is that you're simply not saving enough. The robo-advisor may tell you, "Well, it doesn't look like you're on track to meet your retirement goals," but it won't necessarily help you look at your budget and figure out places where you may be able to cut back. 

The other thing to note about robo-advisors is in contrast to target-date funds, which we talked about, there typically will be some level of fees charged upon the account. You need to know that, that robo-advisors typically aren't free. The one area where you may be able to obtain some free robo-advice is through your company retirement plan. Some employers are eating the costs of robo-advice for their employees, and they may even be able to provide the employees with some sort of a managed portfolio option where employees are given that type of guidance. That's something to look for within your retirement plan.

Glaser: Another avenue could be getting advice directly from your investment firm like Vanguard or Fidelity. What are some of the pros and cons of that?

Benz: Yeah. This is an area that's evolving really, really quickly where firms are competing to offer this kind of guidance. There usually is some type of a fee associated with this type of guidance, but one of the differentiators is that, in contrast with the robo-advisors we just talked about, for people who really want that human interaction, you usually have the ability to either have some sort of telephone conferencing, or maybe even teleconferencing. You may be able to see the live advisor, so some people really like that and take some comfort from that. The other nice thing about this type of service is that the advisor may be able to coach you on other aspects of your financial life. That may be something that you would gain from this type of service.

The thing to watch out for is that you better like the house brand of funds, because it's unlikely that if you go to an investment firm, that they will steer you outside of that investment firm for the specific products that they recommend. Then, you also want to bear in mind that you probably won't get soup-to-nuts financial planning from this type of service. The concentration will probably be on your investment portfolio, and it won't veer heavily into other aspects of your financial life.

Glaser: Finally, I an often overlooked option is to find an hourly engagement or subscription-based advisor to make sure that you're on track.

Benz: That's right, because when I think about it, when I think about what many people are looking for when they're seeking financial advice--yes they want some advice on the investment portfolio, but some of the more impactful decisions that they might be making with their financial plan, or maybe not making with their financial plan, are in other parts of their financial life. Maybe it's that they're simply off track on their budget, they're not able to save enough. Maybe they are prioritizing college funding at the expense of retirement planning. There are a whole gamut of situations where I think it can be really valuable to get that holistic look over your financial plan, and that's what you can get with a true financial planner.

I think that that can be a big advantage in certain situations. There are, as you said Jeremy, some of these advisors who work on an hourly basis or a per-engagement basis. The subscription model seems to really be gaining a lot of attention recently where you're paying some sort of a monthly fee for services, or an annual fee for services. All of these types of fee arrangements may be more cost-effective for certain types of investors. I think that this can be something to check out. 

A couple of things to know about it is that if it's a planner, the person may not be super tuned in to the investment planning piece. They're probably be quite knowledgeable about investments, but the investments might not be their main focus. If what you're looking for is, first and foremost, investment planning, the planner, the financial planner may not be your first stop. 

Another thing to keep in mind is that there's kind of psychological impediment to paying for advice in this way that I've heard from a lot of advisors that consumers just really don't like writing checks for services. That it's easier to extract their fees directly from customer accounts, so that can be a headwind for some consumers to get comfortable with this model. I do think that particularly if the advisor can give you a plan that will help put you on track for maybe two or three years, with maybe just brief check-ins in between, that that type of plan can actually be very cost-effective, even though you're having to write checks from time to time.

Glaser: Christine, thanks for the survey of these options today.

Benz: Thank you, Jeremy.

Glaser: From Morningstar, I'm Jeremy Glaser. Thanks for watching. 

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