What is a Registered Investment Advisor?

We harp on it all the time, but only because it is so important. The distinction between what we do as a truly independent fee-only registered investment advisor (RIA) and what other “financial advisors” do with investment portfolios needs to be understood. Without getting into the whole “fiduciary duty” versus “suitability standard” discussion, let’s objectively outline how we manage portfolios.

As true fiduciaries of our clients’ wealth, we have to put our clients’ interests above all. We do this using individual stocks and bonds to create and manage customized portfolios for each client’s unique needs. At any time we know exactly how the portfolio is positioned and precisely why we own every company in the portfolio. We research, analyze, and value every stock.

We review holdings constantly and continually and make changes as our analysis dictates. We don’t receive any commissions for selling any products. And our fee is based on a comprehensive portfolio approach – which means that we don’t have any incentive to push clients too heavily into any asset class like stocks. Put another way, since we earn the same amount regardless of how we have each client positioned (mix of stocks and bonds).

As RIAs, we are free to simply do what is best for you. And there are some indisputable numbers behind what some consider just a difference of investment philosophy (it’s not).

We recently inherited a brokered account. When it transferred in, the portfolio consisted of:

  • 8 mutual funds
  • 9 random stocks
  • Cash

The anatomy of less than strategic investing:

Here’s where we see a problem and an opportunity. The mutual funds were all class A shares, which means the client paid the broker who sold them roughly 5% in commission at the time of purchase – off the top. That’s five years’ worth of Peloton management fees paid in a single day. But it doesn’t end there.

The annual expense ratios on the funds are 0.90-1.52%, with all but one over 1.0% and most costing 1.20-1.50%. So after paying five years of fees up-front, the client was paying 20-50% more in annual management fees than even Peloton’s highest fee tier, which is 1.0%. And for what?

Just one of the mutual funds listed its top 10 holdings (the ten largest stock positions in the fund) as comprising a mere 11% of the total assets in the fund. And that’s just one of eight funds – all of which manage their portfolios in a vacuum, unconcerned about the client’s other holdings. If each fund owns 100 stocks and there’s no overlap, that’s 800 stocks. How can anyone possibly know how a portfolio like that is actually positioned?

At some point you’re so over diversified that you simply “own the market.” And if you’re going to just own the market, why not buy the SPY? That’s an S&P 500 exchange-traded fund that charges nothing up-front to buy (except the $8 Schwab commission) and costs 0.09% annually to own. Yes. That’s .09% – less than 1/12th of what the eight mutual funds charge in aggregate.

What about the nine stocks in the portfolio? Maybe they’re enhancing the performance through superior stock selection. But a closer look reveals that they were all bought on the same day. Over TWO years ago. And they comprise a whopping 13% of the total value of the portfolio.

What’s the point of trying to pick stocks if you do it like this? They can’t possibly move the needle even if they’re all huge gainers (which they haven’t been to this point).

I don’t know the former advisor, so I can’t say for sure, but my guess is that he or she does not have a 10-page analysis and valuation model to provide the rationale for each holding. Nor does he or she have a target price for any of them. We do.

This type of neglectful management, service, advice, whatever you choose to call it, is rampant in our industry and why we pound the table about how Peloton is different. Product-centric investment advice is not good for clients. Products like A share funds and C share funds and annuities facilitate this type of lazy, “cruise control” mentality to managing clients’ wealth.

These portfolios pay way too much in fees; they’re unwieldy; and they are not tax efficient for the client. You might think with so many shortcomings, this neglectful “structure” is rare. Quite the opposite.

Virtually every new portfolio we take on looks like this, and the brokerage lobbying juggernaut is fighting to keep it this way. Proposed legislation would prohibit advisors from selling merely “suitable” products that also just coincidentally pay them the highest commissions. Instead they would be required to put the interests of their client’s ahead of their own.  It would charge brokers and catch-all “financial advisors” with the same “fiduciary” duty that RIAs already dutifully fulfill – making investment decisions that are best for the client, not for the advisor.

If you think your advisor set the cruise control on your portfolio, we can take a look and offer objective observations. Whether we sway opinion or gain the confidence of new investors or simply bolster the feelings of current clients, we see this as our mission – to educate investors about a better way. 

Enter your information here and we’ll get the conversation started.