Investment Strategy Tolerance
In effect, investors are often largely on their own when it comes to financial advice. The good news? There are great advisers out there. But the bad news is that it can be hard to tell the good from the bad, even when you are already a client.
These five questions will reveal the good advisers. If you can answer ‘yes’ to all five questions, you have found an adviser with good process who acts in your interests, and one you can trust.
1. Does my adviser really know me and my risks?
Really good advisers around the world make sure they know at least three important things:
- Your risk tolerance – How much investment risk you are psychologically comfortable with
- Your risk capacity – How much you could afford to lose through investments without endangering your financial situation or goals, and
- Your risk required – How much risk you need to take on to reach your goals.
There will often be mismatches in these three components of a risk profile. For example, you may not have enough money to reach your goals through conservative investments, so you have to take on higher risk to seek higher returns. That extra risk may take you outside your psychological comfort zone. The art, expertise and talent of a good financial adviser is in helping you balance these important factors of your risk profile.
2. Has my adviser helped me consider alternative strategies?
Investments should not be the only tools in an adviser’s toolbox. Good financial advisers have many ways to help clients. Sometimes, the best solution is not a higher-risk investment. It might be another strategy like working longer instead of retiring, or revising your end goal to something more attainable for you.
The best choice may be to make an investment, but a good adviser will always discuss the other options with you first.
3. Does my adviser really know these investment products?
They will tell you that they do, but most of them don’t. Advisers work from ‘approved lists’ of investments. Most have not evaluated those investments themselves, because that’s what research people do. Most advisers only know the product is ‘okay’ to recommend, but they often have little clue about the investment’s potential risks and rewards. Without knowing about those potential variations in asset values it is hard for you to decide if an investment is suitable for you.
4. Has my adviser explained all the risks to me so I understand?
If you do not understand, it has not been adequately explained to you. Explaining risk as ‘standard deviations’ is useless if you don’t understand this type of mathematics, and most people don’t. Similarly, giving you pages of numbers won’t help you if you think in pictures, or vice-versa. Helping investors understand the risks in their financial plan and the investments within it is a critical step, which is often hurried or even overlooked.
5. Did my adviser get my ‘informed consent’?
Before they operate on you, doctors must get your ‘informed consent’. They must explain what they will do and all the potential outcomes, so you can then make an informed choice to proceed. Financial advice should be the same. The adviser should explain the risks – and why they are appropriate – in ways you understand. Then, they should have you ‘sign-off’ on the plan.
Some advisers do follow a process similar to this, but many others don’t. Many are reputable, but others are taking shortcuts.
Use these checks to avoid the worst