The Myth of Financial Expertise
Being rich is within your control, not some expert’s. How rich you are depends on the amount you’re able to save and on your investment plan.
Experts can NOT guess where the market is going.
The only long-term solution is to invest regularly, putting as much money as possible into low-cost, diversified funds, even in an economic downturn. This is why long-term investors have a phrase they use: Focus on time in the market, not timing the market
How Financial Experts Hide Poor Performance
Experts rarely admit mistakes → Many advisory firms still gave “buy/hold” ratings to companies right up to (and even on) the day they went bankrupt.
Many company’s five-star ratings are misleading
- Low-star ratings predict poor performance.
- High-star ratings do not reliably predict future success.
Survivorship bias hides failures
- Fund companies launch many funds; the poorly performing ones get closed and erased from history.
Only the successful funds remain visible, creating a false impression of strong overall performance.
Although a fund manager might be lucky for one, two, or even three years, it’s mathematically unlikely he’ll continue beating the market. Don’t trust purported financial expertise just because of a few impressive stats.
I Bet You Don’t Need a Financial Adviser
Most young people do NOT need a financial adviser.
- We have such simple needs that with a little bit of time (a few hours a week over the course of, say, six weeks) we can get an automatic personal finance infrastructure working for us.
- Financial advisers don’t always look out for your interests. They’re supposed to help you make the right decisions about your money, but keep in mind that they’re actually not obligated to do what’s best for you. If they’re paid on commission, they usually will direct you to expensive, bloated funds to earn their commissions.
If you’re currently working with a financial adviser, I encourage you to ask them if they are a fiduciary (i.e., if they’re required to put your financial interests first). → If you discover that your adviser is not a fiduciary, you should switch. Don’t be worried about the variety of emotional tactics they’ll use to get you to stay. Keep your eye on the prize and put your financial returns first.
If you really want to look into hiring a financial adviser
Ask at least these three questions for your first meeting with the financial adviser
- Are you a fiduciary? How do you make your money? Is it through commission or strictly fee-only? Are there any other fees? (You want a fee-only adviser who is a fiduciary, meaning they put your financial interests first. Any response to this question other than a clear “yes” is an instant no-hire.)
- Have you worked with people in similar situations? What general solutions did you recommend? (Get references and call them.)
- What’s your working style? Do we talk regularly, or do I work with an assistant? (You want to know what to expect in the first thirty, sixty, and ninety days.)
Do NOT simply ignore the “nominal” 1% fee!!!
- Overtime a 1% fee can reduce your return by around 30%! (Fees compound!)
- If I invested 2.1 million to $1.5 million—which they would pocket! → One percent can cost you 28 percent of your returns. A 2 percent fee can cost you 63 percent of your returns.
- The average person doesn’t understand how crushing these fees really are because the math is extremely counterintuitive.
You should ideally be paying 0.1 to 0.3 percent.
Active vs. Passive Management
When it comes to investing, fees are a huge drag on your returns.
Mutual funds use something called “active management.”
- But even with all the fancy analysts and technology they employ, portfolio managers still make fundamentally human mistakes, like selling too quickly, trading too much, and making rash guesses
- Not only do they usually fail to beat the market, but they charge a fee to do this.
- Although sometimes they do extraordinarily well and far outperform index funds, but in a long run, the safe assumption is that actively managed funds will too often fail to beat or match the market.
Passive management - Index fund
- These funds work by replacing portfolio managers with computers. The computers don’t attempt to find the hottest stock. They simply and methodically pick the same stocks that an index holds
- Most index funds stay close to the market (or to the segment of the market they represent)
- The big difference is in fees: Index funds have lower fees than mutual funds, because there’s no expensive staff to pay.
Comparison example:
Example
John Bogle, the Vanguard founder, once shared a shocking example with PBS documentary series Frontline. Let’s assume you and your friend Michelle each invested in funds with identical performance over fifty years. The only difference is that you paid 2 percent lower fees than she did. So your investment returned 7 percent annually, while hers returned 5 percent. What would the difference be?
On the surface, 2 percent in fees doesn’t seem like much. It’s natural to guess that your returns might differ by 2 percent or even 5 percent. But the math of compounding will shock you.
“Assuming a fifty-year horizon, the second portfolio would have lost 63 percent of its potential returns to fees,” Mr. Bogle said.
Think about that. A simple 2 percent in fees can cost you over half of your investment returns.
In investing, fees are your enemy!!!
Bottom line: There’s no reason to pay exorbitant fees for active management when you could do better, for cheaper, on your own.
This is your money. → Learning the fundamentals will be the most profitable decision you ever make.
Don’t wish it was easier, wish you were better. Don’t wish for less problems, wish for more skills.” — Jim Rohn