Random thoughts, Financial Planning

Till very recently, Finance was simple. You earned X, spent Y and the remainder Z was usually put away in a Fixed Deposit for a rainy day or as savings for a future goal – House / Marriage, etc. Equity exposure was the last thing most people had in mind unless of course you were in Mumbai or Gujarat where it seems markets run through their blood veins.

Most articles on finance end with a phrase “Please consult your financial adviser or investment adviser” when it comes to advising on what to Buy / Sell. But who is a financial adviser in the first place?
When it comes to other fields, you have recognized degrees that suggest that the person you are approaching for advice has the necessary qualifications to help you. A Doctor for example needs to study and pass a 5 ½ year course in Medicine before he can start advising on what medicine you need to take, a Lawyer needs to pass a Law Exam (once again after 6 years of study (non-Integrated)).

While I can prepare my company’s balance sheet, I cannot sign it off and that falls to a guy who has passed his CA exam (which takes time given the low passing percentage) and this after spending a minimum of three years working under an existing chartered accountant.

But when it comes to advising one about how to achieve one’s goals, there was no exam as such and anybody could and did claim to be a financial advisor even though many barely had a clue on how to guide the person who came to him for help in managing his finances.

These days everyone claims to be a financial advisor, be they selling tips on what stocks to buy or advising you on what mutual fund to invest in with most of them now flaunting a SEBI Certificate that enables them to claim to be a registered investment advisor.

Most of the Indian middle class I doubt has much exposure to a financial advisor who can advise on our finances in totality. The Mutual Fund distributor advises on which funds to buy, the distant aunty of ours throws in a few LIC policies which she claims shall secure our and our children’s future while the stock broker (if you haven’t yet gone fully online) provides you with ideas on what stocks to Buy and last but the biggest of all, our neighborhood friendly PSU Bank offers to sell Fixed Deposits.

In other words, financial advice is based more on what they want to sell than what we really need to buy but then again, Finance for long has become a push based strategy than pull. But are we well served by buying what is advised by those who honestly do not have a clue on what our requirements are, let alone our goals / dreams and fears?

Yesterday I decided to ask my twitter followers the one thing they look forward when choosing their financial advisor. Some of the answers I received;

“Credible track record, transparency around compensation, Strong grounding in ethics. Trust. That comes from multiple factors – incentive structure, track record, investment philosophy, clear communication etc, Trustworthy, Integrity.”

As W. Edwards Deming once said, ““In God we trust; all others bring data.” Trust is important, but trust without data to back it up it is nothing more than a cognitive bias more specifically referred to as Dunning–Kruger effect.

When we invest for a Goal, we are investing in a uncertain future with the only road map being of the past and it’s hence important that we select the right people to help us in that journey of ours since if one screws up, the impact is one for the life time.

A lot of friends compare advising (finance) to how a Doctor advises his patient but the fact they miss out is not only are there specialist but even they (many a time) ask you take a second opinion when it comes to say a operation / method of treatment. When it comes to investing, how many advisors have you met who say, why not take a second opinion on whether this path is right for you or not?

An advisor is not a seller, Period. He needs to assess your financial position, your goals, your wishes, your fears and provide you with advise based on what is best based on current set of data and one that could undergo change as time passes by. An Advisor has a Fiduciary duty to act in the best interest of you and you alone. He will of course charge you a fee for doing the work, but then again, we all understand there is no free lunch.
While it’s easy to believe that choosing the best stock / best fund will make a large difference to our final results, the truth is that its Asset Allocation that is more important than the never ending search for the holy grail of funds / stocks.

If you have invested 90% of your money in the wrong asset classes, even great investing of the remainder 10% barely will scratch the surface. Empirical evidence has shown that most funds find it tough to beat a simple 60 / 40 allocation that is rebalanced regularly and yet, we get impressed by the tip selling friend who claims great returns on back of his advise.
It’s shown (once again data backed) that costs are the prime killer of returns in the long run, but based on selective / recency bias, funds that charge as much as 3% of your AUM on a yearly basis continue to gain fresh funds.

Most investment advisors I have seen seem to suggest strategies which believe that you shall continue to earn and save for the next 20 /30 years. What if economy went into a recession and you lost your job not to mention the unmentionables – health / death, etc. Is your plan still worth the paper it’s written on?
Preparing for all contingencies is essential and if you cannot ask the right questions, you shall be taken for a ride since end of the day, the risk is yours only. Gains if any are always shared.