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This article was published 5/7/2013 (1116 days ago), so information in it may no longer be current.
They're the one-on-one discussions that all too frequently end with a few nods of understanding and a signature.
These are those meetings with the adviser or financial planner when we're presented with investment recommendations. Understandably, most people want to get the ordeal over and done with as soon as possible to get back to dealing with everything else in life.
But it can't be emphasized enough that the investment decisions made today have a cumulative and weighty impact years from now.
In most cases the adviser-client relationship is asymmetrical when it comes to investing -- as it should be. They're the experts and we're the customers seeking advice. But the question always lingers in the air: How do you know you're getting good advice?
The best way to answer that riddle is to take control in the relationship -- asking the right questions so you know what you're buying is in your best interest.
To help frame the discussion, here are some ideas from industry insiders, experts and advocates about what to ask the next time you're facing an investment-product decision.
What are the goals?
This question not only refers to the intent of the mutual fund (or whatever investment you're being offered), but also refers to your needs as an investor. Any investment under consideration should align with your goals, such as retirement date, income needs and risk tolerance, says Steve Arena, a veteran financial adviser with Sun Life.
Regulations stipulate all advisers must go over a 'know your client' questionnaire when first meeting with clients to determine their needs.
"If the adviser knows what your timeline, your risk tolerance and objectives are, then, obviously, you should have some confidence in this professional to make good selections for you," says the certified financial planner based in New Market, Ont.
Still, it can't hurt to press the matter with a few questions. For example, you might want to ask why Company X's Canadian equity mutual fund is the right investment for you 15 years before retirement.
While the obvious goal for all funds is to make money, they all go about it differently. Even equity-based mutual funds investing in the same stock market, buying within the same sector will use different investment techniques to provide returns for investors.
A good adviser should be able to explain an investment's strategy clearly and why it aligns with your goals, says Arena, a member of Advocis, which represents Canada's financial advisers.
"If it doesn't make sense and he or she can't make it clear to you, this is a red flag."
Who is the fund manager?
Most advisers sell mutual funds, which are based on the notion the expert money managers running the funds will enhance profits. But it's a big, big fund-universe out there and some managers are much better than others at providing value to investors. Investor Education Fund president Tom Hamza says the majority of mutual fund managers actually fail to outperform their benchmark index consistently over time. So if you're going to go the actively managed mutual fund route, ensuring a fund has an excellent manager with a history of consistently outperforming the related benchmark index -- such as the TSX Composite -- is essential. To that end, you want your adviser to be able to talk extensively about fund managers and their strategies, explaining how their expertise adds value in the long run.
What are the risks?
This question should be central to discussions about investing, says Julie Hauser with the Financial Consumer Agency of Canada. Ironically, the answer you don't want to hear is there are no risks at all. All investments have risks, even GICs. A discussion about potential losses is certainly important, but not just market losses. Investors should be aware of risk in all its forms -- interest rate risk for bonds, inflation risk for GICs and even bankruptcy risk associated with the company managing the investment. In Canada, a number of industry-funded agencies provide insurance to investors should the companies holding their investments go bankrupt, such as the Investor Protection Corporation for mutual funds. But only the CDIC -- Canada Deposit Insurance Corporation -- provides guarantees on your money, those being GICs and other savings up to $100,000. Other investments, such as mutual funds, are not guaranteed against market risks, unless you're paying for some form of insurance guaranteeing your capital. In most cases, mutual funds, stocks and bonds have the potential to be worthless -- though an unlikely outcome. The bottom line is no investment is wart-free. If it's sold as the opposite, proceed with caution, Hauser says. "If the answers sound too good to be true, they just might be, so don't invest."
How does this investment compare to its alternatives?
While the fund being pitched to you may sound fantastic, it's tough to judge its performance when you don't know anything about its competitors. "Get informed about your options," says Joanne De Laurentiis, president and CEO of the Investment Institute of Canada. "The fund industry in Canada is very competitive." Most people comparison-shop for big-ticket items. Investments should command the same scrutiny. In some cases, you will have to look outside the box presented to you by your adviser.
"One of the issues and challenges is that for some advisers they're restricted in what they can sell," says Hamza. You may be working with an adviser only offering funds managed by one firm. That may be OK provided the funds are competitive. But you don't know one way or the other until you inquire. An even more pointed discussion should be about the fees charged for one fund compared to another, Hamza says. After all, if only some actively managed funds outperform their benchmark regularly, the fees you could be paying annually on an investment may be money well-spent, or like tossing cash in the trash bin.
What are the fees?
The name of the game is capitalism so you shouldn't be surprised no one plays for free. Almost every product has a fee. Hamza says don't dance around the subject; be direct. "The one question that is pretty critical would be 'Is this the lowest-cost option that will suit my goals?' " he says. "You have to ask 'Is this mutual fund going to do for me what an index fund or an exchange traded fund won't do?"
All funds charge a management fee -- expressed as the MER (management expense ratio) -- but some funds charge more than others. Exchange traded funds (ETFs) charge the lowest fees -- less than one per cent per year of assets invested -- but they provide little active management, and you need a brokerage account. Most ETFs track an index such as the S&P 500. As it goes, so does the ETF. Index mutual funds do the same trick, but charge about one per cent of assets per year and don't require using a brokerage. In contrast, some actively managed mutual funds have MERs exceeding three per cent per year, which might be just dandy if the high fee is justified by high returns over and above what you could get buying an ETF that invests in the same sector at a tenth of the fee.
How is the adviser compensated?
Related to the fees discussion is adviser compensation. Let's face it. Advisers must feed their families, too. "Nobody is here to try to make this an unsustainable industry in terms of services, so when you get a service you should pay for it," Hamza says. "But it is vital to know what you're paying for." These days, adviser compensation is usually embedded in the MER of a mutual fund, and the mutual fund company then pays the adviser a commission for selling the fund. Arena says good advisers clearly explain how they are compensated for selling an investment and providing related advice. "I'm one who discloses everything," he says. "I talk to them about a fee for service, or an initial sales charge or a deferred sales charge." Although trailer fees are the norm, advisers can be compensated in a variety of ways. Compensation varies from fund and fund companies so it may be worth asking how the company managing the recommended fund compensates your adviser compared to another, equally good option managed by a different fund company. Even if the compensation for the recommended investment is more favourable for your adviser, it doesn't mean the recommendation is biased. You can only come to that conclusion after considering all those other factors such as track record, fund management and risk.
What is the investment's track record?
Mark Twain once remarked history may not repeat itself, but it does rhyme a lot. The same could be said about investing. Asking about an investment's past performance may seem as if it should be at the top of the list of questions. After all, a fund with history of beating its peers and its benchmark index is more likely to do so in the future than other funds without that record. But an investment's past should not obscure what's most important. "It's the ongoing performance that counts most," Hamza says. And that's why the other questions -- about goals, risk, fees and management -- are equally critical. The answers to these questions often affect past and future performance. A fund with a good track record, for instance, compared to its peers may sound like a great investment, but its stellar history could be the result of superior management. Managers come and go, and sometimes the enhanced performance leaves along with them. But you wouldn't know unless you ask about the fund's management history.
Do your homework
While your adviser should make much of the information about an investment readily available, you should do your own research before buying. "The best place and most easy to understand would be Morningstar.ca," Arena says. Morningstar.ca charges a subscription for full access, but it also offers free access that provides the basics on most funds in Canada, such as performance, fees, asset allocation and even ratings. Other websites such as Globe Investor -- also subscriptions-based -- Yahoo Finance and Google Finance provide similar data. Regardless of where you go, investment homework is a must-do chore. It can be a lot of dry reading, but research is a solid formula for success, Hauser says. It will help frame your questions and build a foundation of knowledge so you can separate the truly good answers from the seemingly good ones.
As she says, "The more you know, the better you'll do."