Should I Fire My Financial Adviser?

(Money Magazine) — Question: Last year I put my money with an adviser for an annual fee of 1% of assets and told him my only criteria for evaluating him will be whether he beats the market. I have refrained from telling him where to invest, when to invest, etc. as I view that as his job.

He “got into the rally late” last year and underperformed the broad indexes by 10% to 12%, although we did have a decent fourth quarter. This year he’s off to a horrid start, however, and we are already 3% worse than the broad indices. I try not to be a knee-jerk investor and know that every adviser has his ups and downs, but I’m wondering….Is it time to pull the plug?

–Mike, Elkins Park, Pennsylvania

Answer: I can’t tell you whether it’s time to fire your adviser. I don’t feel there’s enough information to make an informed decision about that based on what you’ve told me.

But I do think it’s time for you to pull the plug on the way you work with advisers. Because if you stick to what you’re doing, you’re more likely to end up with an ever expanding list of ex-advisers than you are with a portfolio that will help you meet your financial needs.

I don’t want to seem overly critical here, but quite frankly I don’t think beating the market is much of a benchmark to be setting for your investment portfolio’s performance in the first place. And definitely not the only one.

To begin with, it’s kind of vague. Which “market” are you talking about? You refer to “broad indices.” Do you mean broad as in the Standard & Poor’s 500 index? Or even broader as in the Wilshire 5000 index? What if your portfolio includes foreign shares? How will you evaluate your adviser on their performance?

And what time frame are you using? Do you expect the adviser to beat the market every year? Every quarter? You seem to tracking him on a monthly basis now.

You say you know that every adviser has his ups and downs, but at this point you appear ready to bolt after being with this adviser only a bit more than a year. Heck, during the go-go 1990s some of the most renowned value investors posted relatively lackluster results for years before they were eventually rewarded for buying beaten-down and neglected stocks.

Since your sole performance yardstick is beating the market, do you care how much risk your adviser takes? Would you consider an adviser who maybe tracks the market or even trails a bit but takes on significantly less volatility?

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I could go on, but the point is that I think you ought to consider forging a different sort of relationship with an adviser.

As I see it, the aim in investing isn’t so much to beat the market as to create a portfolio that gives you a reasonable shot at meeting some goal — whether it’s retirement, general financial security, paying for kids’ education, etc. — given your tolerance for risk.

In order for your adviser to create such a portfolio, he needs considerable input from you. You’ve got to talk with the adviser about the actual goals you’re trying to achieve and when you’d like to attain them. You’ve got to give the adviser a sense of how much you’re willing to see your portfolio’s value jump up and down en route to those goals and how much wiggle room you have for falling short of reaching them or extending the time you’ll need to achieve them.

The adviser should also be an active part of this process, not just willing to listen to you but probing for details, trying to understand how and when you plan to use the money you’re investing and making you aware of both the risks and potential rewards of different investing strategies.

In short, I think the relationship should be more a collaboration than you just giving the adviser marching orders to go out and beat the market. Without such give and take, I just don’t see how the adviser can set an investing strategy that’s appropriate for you — or how you can know whether the adviser’s approach makes sense for your situation.

I don’t want to suggest that you shouldn’t monitor the adviser and hold him accountable for his performance. Quite the contrary. I’d expect the adviser not only to provide regular (quarterly and annual) reports that compare the performance of your portfolio to a benchmark that you and the adviser agree is appropriate given your investment holdings, but also to show your progress toward your goals.

And if, after over some reasonable period (a judgment call, but in the absence of a major blow-up I’d say roughly two years makes sense) you feel that his performance isn’t up to snuff, then by all means pull the plug.

Or you can ignore all I’ve said and fire your adviser every time he falls short of your sole criterion of beating the market. In which case, I hope you’ve got a long list of potential replacements. You’re going to need it.