June 15, 2016

I have seen for a long time, as I’m sure many of you have, a constant bombardment of commentary in both the print and broadcast media questioning why on earth anyone would actually pay money for financial planning and investment advice.  The thrust of this point of view is that we can all do these things much better ourselves – and for free!  For those who embrace that idea, I have just two words for you:  good luck!  What I find quite amazing about this “attack” journalism – sorry, wrong word, it’s not journalism really, and the biggest target seems to be mutual funds. 

When we launched HG Partners in 2003, we had a very important decision to make:  should be focus our advice platform on selecting individual securities ourselves and build portfolios of securities for our clients, or should we focus on selecting individual managers who would build portfolios of securities for our clients?  For us, the decision was not difficult.  We believed then, and certainly do now, that the best course of action with respect to our clients’ investment capital (and our own), is not to build a portfolio of individual securities, but rather portfolios of individual managers.

There is a lot of research to support the proposition that investors with advisors have much better results than investors who do not have advisors. That will be discussed a bit later in this piece.  So, knowing that having professionals looking after your investments was better than looking after them yourself, the next question was what kind of platform to develop to do that.  We saw two ways to go:  investment counsel firms or mutual funds.

What I find very interesting to note is that you will often see media commentary mentioning “outgrowing” mutual funds.  At that point, as their thinking goes, one should shift their portfolio to an investment counsel firm.  The problem with that, for most clients, is that it means little if any diversification in terms of management.  Our basic belief in terms of diversification, is that you ought to have at the very minimum, four managers.  Since many investment counsel firms have minimum investments of $2 million, this approach is not one that works for the vast majority of investors.  That is why we decided to go the mutual fund route.  We simply did not think it prudent to advise clients to place their entire portfolio with one manager.  It’s all about diversification, and correlation.

I think there is a lot of misunderstanding about both.  Most investors look at diversification in terms of geography, sectors, market cap and so forth.  And they are indeed correct in looking at those things.  For us, though, the most important part of diversification is diversification of managers. When one money manager is calling the shots with respect to your money, if things go bad, it can be very bad.  We believe that having 5 to 10 different managers is the best diversification we can possibly provide for our clients.  Can one, or a couple, have very bad years at the same time?  Yes.  But if you have your eggs in a number of different baskets, over the long term your results will almost always be smoother than they would be if you made one big bet on a particular manager.

The other very important issue that we work very hard on is correlation.  Simply having a number of different managers does not, in and of itself, mean that you are really diversified.  It is very difficult to try to find the very best managers in a universe of thousands.  That is our first focus.  Once that list has been compiled, we do a correlation analysis on all of them.  Our objective is to get the correlation among the managers we are using as low as possible.

One of the seminal research studies on the value of advice was published in July of 2012 by the Centre for Interuniversity Research and Analysis on Organization (CIRANO).  The study was entitled Econometric Models on the Value of Advice of a Financial Advisor.  One of the key features of the CIRANO research is the depth and quality of its underlying data.  CIRANO engaged polling firm Ipsos Reid to conduct a survey of approximately 3,600 households, with about a 50/50 split between advised and unadvised households.

A great deal of social, economic, demographic and attitudinal information was collected with respect to each one of the respondents so that asset levels could be compared for households that were for all intents and purposes identical in every respect, except for their use of advice.  Great care was taken to ensure that it really was an “apples to apples” comparison.  Three primary conclusions were drawn.

NUMBER ONE:   Advice has a positive and significant impact on financial assets after factoring out of the equation the impact of some 50 socio-economic , demographic and attitudinal variables that also affect financial assets.  It was no surprise to me to see that the study found that the impact of advice was more pronounced the longer the tenure of the advisory relationship.  To attach some actual numbers to this, the study found that over a four to six year time period, advised households had 1.58 times the financial assets of unadvised households.  That differential increased to 1.99 times for periods of seven to fourteen years and to 2.73 times for periods of over fifteen years.  That differential could easily make the difference between a very comfortable retirement and a not so pleasant one.

NUMBER TWO:  The positive effect of advice on wealth accumulation cannot be explained by asset performance alone:  the greater savings discipline acquired through advice also plays a very important role.  The research indicates that advised households save at twice the rate of non-advised households. While investment selection, tax planning and asset mix are all extremely important components in wealth accumulation, you cannot invest money unless you have it.  Disciplined saving is the starting point.  In fact, the research found that a mere 1% increase in the rate of savings increases asset levels by almost 9%.

NUMBER THREE:  Advice positively impacts retirement readiness, even after factoring out a myriad of other variables.  The research shows that having a financial advisor increases the probability of a respondent declaring confidence in achieving a comfortable retirement by 13% relative to a non-advised respondent.  And, just to interject a personal comment here, I have found over many years that when it comes to retirement there is a great deal of complacency:  many individuals just have the attitude that “things will take care of themselves”, while others genuinely believe that they are well-prepared for retirement when in fact they are not.  In these cases, advisor “intervention” can be the catalyst that can turn potential disaster into a positive outcome.

Can some people “go it alone” and be successful?  Yes.  But they are very few and far between.  Advice makes a real difference, and a very positive one.
Howard Goodman
President, HG Partners Limited
Director, Private Client Group &
Senior Financial Advisor,
HollisWealth Advisory Services Inc.