How much of a boost in net returns can financial advisors add to client portfolios? Well according to Vanguard, maybe as much as 3%.
In a recent research paper published last month, Vanguard, the largest mutual fund company in the world and in my opinion, the highest integrity firm out there, believes advisors can generate returns through a framework focused on five wealth management principles.
Below are the five principles Vanguard outlines:
1) Being an effective behavioral coach. Helping clients maintain a long-term perspective and a disciplined approach is arguably one of the most important elements of financial advice. (Potential value add: up to 1.50%.)
2) Applying an asset location strategy. The allocation of assets between taxable and tax-advantaged accounts is one tool an advisor can employ that can add value each year. (Potential value add: from 0% to 0.75%.)
3) Employing cost-effective investments. This critical component of every advisor’s tool kit is based on simple math: Gross return less costs equals net return. (Potential value add: up to 0.45%.)
4) Maintaining the proper allocation through rebalancing. Over time, as its investments produce various returns, a portfolio will likely drift from its target allocation. An advisor can add value by ensuring the portfolio’s risk/return characteristics stay consistent with a client’s preferences. (Potential value add: up to 0.35%.)
5) Implementing a spending strategy. As the retiree population grows, an advisor can help clients make important decisions about how to spend from their portfolios. (Potential value add: up to 0.70%.)
More from Vanguard:
How an investment advisor approaches two additional principles, asset allocation and total return versus income investing, can also add value, but are too unique to each investor to quantify.
Vanguard’s Advisor’s Alpha framework incorporates all of these principles, making it possible for advisors to add up to about 3% in net returns for their clients. This figure should not be viewed as an annual add, however. Vanguard’s research emphasizes that it is more likely to be intermittent, as some of the most significant opportunities to add value occur during periods of market duress or euphoria that tempt clients to abandon their well-thought-out investment plans.
In such circumstances, the advisor may have the opportunity to add tens of percentage points, rather than merely basis points. Although this wealth creation will not show up on any client statement, it is real and represents the difference in clients’ performance if they stay invested according to their plan as opposed to abandoning it.
Summary
As a self-described frugal person and a do-it-yourselfer, I’m aware it’s not always easy to justify paying a financial advisor to manage your investments. Why should I pay someone for this when I can do it myself?
So to have Vanguard, one of the most highly respected mutual fund firms in the world, and a definite hub for the do-it-yourself kind of investor, research and quantify the potential value a client could receive when a financial advisor follows their five step framework (which we do) while managing their investments, all I can say is thank you and as usual - job well done.
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