Many people often wonder: Is a financial advisor worth it? With so much free advice on the internet, why pay for the help?
It makes sense that people would ask that. Advice from a financial planner often costs about 1% of your assets each year. It may not sound like much, but the fees can add up. Plus, people want to know if they are getting what they pay for.
Why Hire a Pro
Vanguard, one of the world’s largest brokerage firms, has worked on this question for years. In a 2019 whitepaper, the firm says that the value of its expert advice can boost returns by 3% per year. It calls this edge "the Advisor's Alpha."
Vanguard does say that you won't see this increase every year. Also, the edge depends greatly on how the assets are managed.
A study by Russell Investments, a large money management firm, agrees with Vanguard's basic stance. Russell says a good advisor can increase your returns by 3.75%.
Some People May Not Need an Advisor
Not all people want or need a financial advisor. About a quarter of private investors are “self-directed,” according to Vanguard. That means they invest all on their own, with no help from a pro.
These are people who truly enjoy investing. They obsess over the markets and they like to create financial forecasts. Plus, they have a very high level of control over their feelings, which helps them stick to their long-term investment plan.
Given that most people aren’t self-directed when it comes to investing, it’s good to know that you can still find the kind of help that will really pay off.
How Advisors Add Value
Vanguard says there are many ways that a financial advisor can add value to your efforts to grow your wealth. Among these are:
- Financial planning
- Asset allocation
- Tax planning
- Timing withdrawals
Advice on these topics may boost your returns a little at a time, or a lot. It depends on your unique case.
But the single biggest way an advisor can add value and increase net returns is through something called "behavioral coaching." This type of advice helps you reframe your thoughts about the market and act calmly, even during times of turmoil.
As every good poker player knows, scared people don’t act based on logic. They react based on fear. The best financial advisors are able to keep their clients’ worries in check by giving steady, fact-based advice when the markets get wobbly or crazy. The Russell study also identified this as the single largest benefit of working with a financial advisor.
An advisor's steadfast advice can help your bottom line. A Vanguard study of more than 58,000 self-directed IRAs showed that investors who made material changes to their strategy even once in the five-year time frame from 2008 to 2012 suffered a hit to their return of at least 8%.
A Morningstar study also shows that investors often receive far lower returns than the funds they invest in. This is because they buy funds after they have done well and ditch other funds right before they take off. In other words, they sell low and buy high. A trusted advisor can stop you from making such mistakes.