Conversation with a Fee-Only Fiduciary

Conversation with a Fee-Only Fiduciary

IMG_1108A Conversation with a Fee-Only Fiduciary

The best financial advisers, I’ve found after a year of listening to them, are thoughtful and pragmatic, don’t take themselves too seriously, and are confident enough in their knowledge that they need not hyperventilate when issuing advice. The Number by Lee Eisenberg

Prolog: You are going to eavesdrop on a 100% fictional conversation between a client and a fee-only genuine fiduciary financial adviser. Our fictional client, Samantha, a 30-year-old professional, needs assistance with her employer-sponsored retirement plan. I created the following “conversation” which I think illustrated how this highly focused conversation might look like. In my opinion, this story shows an actionable follow-up to the book, “The Language of Trust” (Check out my review).

S E T T I N G :   F I N A N C I A L   A D V I S E R ’ S   O F F I C E 

Adviser: “I’ve reviewed your background information about your retirement plan. Thanks for sending it to me. This is a complimentary meeting to see if we are a good fit, so let’s get started. How did you hear about me?”

Samantha: “Ben, my fiancé, encouraged me to see an adviser. My friends, Carolyn and her wife Madison, hired you as their adviser. They recommended you without hesitation. Carolyn has experienced several advisers and trusts you the most.”

Adviser: “Yes, of course. They’re a wonderful couple and great people. I’m flattered. They work hard to learn how to manage their investments. They are my most knowledgeable clients—as I’ll point out in a few minutes, that’s an important part of our professional relationship. Tell me more about your investments.”

Samantha: “I started saving for retirement through work several years ago. First, I bought my company stock and then I went into a safer investment when the stock went down in 2008. I read a little about investing, but it seemed complicated. Ben and I went to investment lunches, but I felt like they were trying to railroad me. Ben didn’t like the insurance products either. So, he decided to invest on his own. He showed me what he was doing, but neither one of us knew enough about my 401(k) plan.

When I told him I was thinking about seeing an adviser, he encouraged me but told me to avoid the freebie financial advisers. ‘When you pay somebody by the hour, you’ll get honest advice,’ he said.”

Adviser: “It’s good to have support of good friends. Many couples don’t  talk about money.

How can I help?”

Samantha: “I’m not sure. My folks said my money might not be spread out enough”(She shows the adviser her financial spreadsheet).

Adviser: “Thanks, I looked at this in the email you sent me. Let’s see, you have $35,000 in a 401(k) plan, and you work in the IT department as your company’s webmaster. You own a condo with a mortgage of about $120,000, with a $1,300 per month payment. Your car is paid off and you have no other debts. Sounds good. What’s the 401(k) money for?”

Samantha:” It’s for retirement. I plan not to touch it.”

Adviser: “Do you have a retirement age in mind?”

Samantha: “Yes, at about 60, another 30 years. My plan may change when my future husband gets involved with both our finances. But for now, let’s say 60.”

Adviser: “You have a great start, particularly the actions you’ve already taken in learning to start a solid plan and knowing when to ask for help.  (Looks at the spreadsheet.) You  have $28,000 in your 401(k) in  a Stable Value fund and $7000 in Flat Tire Company (FTC) stock, where you work.”

Samantha: “Thanks for pointing that out. I know enough to have both bonds and stocks and that’s what I have. But I don’t know what kind of bonds or stocks to invest in.”

Adviser: “You’re correct about having both,  but it’s not diversified enough. You have 80 percent of your retirement plan in the stable value fund. Do you know what a stable value fund is?”

Samantha: “I think so. It doesn’t lose money, like a bank savings account. That’s why I chose it. My company’s stock lost money when the market tanked in 2008. I asked the Human Resources department if I could sell it. They said I couldn’t.”

Adviser: “Why?”

Samantha: “I don’t remember. The person I spoke to tried to tell me the stock price goes up and down. I was confused and troubled. He suggested I put my next retirement deductions into an account that doesn’t lose money. I started contributing to the stable value fund and stopped buying the stock. I have serious doubts about buying real stocks.”

Adviser: “Your stable value fund is also called a fixed account, but 80 percent is too much for a young investor because it won’t grow much. It’s fine to have some of your money in this account since you kept contributing even during the 2008 crash. Lots of people stopped altogether. Is there anything else you would like to tell me before we continue?”

Samantha: “No that’s about it. What should I do?”

Adviser: “First, you need to find out about your company’s retirement plan policy, the investment choices and why you couldn’t sell the stock. Second, if we decide to meet again, we can make changes. Your problem of spreading out, diversifying, is easy to fix because you are now a regular saver. For most people that’s  the hardest part. Diversification means finding the best mix of stocks and bonds through mutual funds. Most people come here knowing nothing about their current retirement plan and want me to fix and manage it 100 percent. It costs more, but after learning a few basics, you can save a lot of money. You’ve already started to learn, so you’re in a better position to tell me your direction, and this helps me to help you.”

Samantha: (relieved). “Oh, thanks, I was a little nervous because I didn’t think I knew enough.I should know more.”

Adviser: “Of course. I encourage my clients to know as much as they can about investing. I’ll give you a short reading list to get started. It’s your money and only you can take the responsibility for your retirement. My job is to help you learn which investments are available on your employer’s 401(k) plan which will work best for you. We’ll work on a plan with some risk to grow and preserves what you have earned. It’s a delicate balancing act to help you prepare for down markets.

It is surprising how a little financial self-education on investing help clients sleep through market fluctuations.”

Samantha: “I know the feeling. I freaked four years ago when my FTC stock went down.”

Adviser: “Find out why you couldn’t  sell. What are the restrictions? Who is the administrator and record keeper? Usually, companies farm this out to one of the large mutual fund companies. There must be a brochure or information online. I could look it up for you, but that would take more time. I want you to do this. OK?”

Samantha: “Yes, I’ll find out. Oh yeah, I remember getting a 15 percent discount on FTC stock.”

Adviser: “Sounds like a good deal. Ask your HR department for the company’s list of investments in your company’s 401(k) and most importantly, the costs. Be sure to include the ticker symbol, it’s a five- letter identification of each mutual fund. Your 401(k) plan should have a list of mutual funds.” (Samantha is writing down her list of needed information.)

“As I was saying, I’ll offer recommendations you’ll understand to get you to your retirement goal.”

Samantha: “OK, that sounds fair. My fiancé suggested I ask you if you’re… ah, I forget the word, it’s something about looking after my interests…”

Adviser: “Your fiancé is on the ball. He wants to know if I am a fiduciary.”

Samantha:“Yes. Now I remember, do you sign fiduciary agreements with your clients.”

Adviser: “Here it is.”

Samantha:“That was quick. I owe Ben a dinner, thanks.”

Adviser: “First, let me explain this agreement, it is the basis of our professional relationship should you hire me. As your fiduciary, I will not put you in funds which pay me commissions. I work strictly on an hourly basis. Together we pick the funds which meet your best interests. Your investments are not paying me, you are. When you hire a contractor, mechanic or a CPA, they charge a one-time fee. I work the same way. If you want to hire me, my fee is $200 per hour and there are no other fees. But what I want is that you be willing to learn to take responsibility for your plan.”

Samantha: “I like the direction we are going. You removed the inherent complications about your fee as Ben wanted. It’s very straightforward. But I’m not sure how I can take responsibility for my plan.”

Adviser: “That’s why I get paid. It’s training you, in a sense, about becoming empowered to take charge. Honestly, Samantha, I think you can do this. Believe me, $200 per hour is cheaper than paying a percentage of your portfolio. Most important, you’ll feel confident knowing you have an understandable plan. While I will never promise which stock or mutual fund will outperform the market, I can promise you will know how to begin to take responsibility after our next session and in the future. It’s a gradual process. OK?”

Samantha: “I appreciate your incremental approach, the explanation about fees, how you are compensated and the risk of FTC stock. You answered my initial question about diversification. I didn’t know this. As I said, I like where we are going. Alright, let’s go for it. I’ll fax the information about my employer’s options as soon as I find out. Let’s make an appointment now.”

Adviser: “Great. Just stop by my secretary’s desk.”

Two Days Later

S E T T I N G:  F L AT-T I R E   C O M PA N Y ’ S   H U M A N  

R E S O U R C E    D E PA R T M E N T

Samantha: “Good morning. I have a 401(k) account and would like to know more about the plan.”

Clerk: “Here is a brochure showing the company’s plan.”

Samantha: (Looking at the brochure). “Thanks, I see the list of mutual funds but I don’t see the costs.”

Clerk: “That’s all I have. Here is the phone number to get more information.”

Samantha: “Before I call this number, just wanted to let you know I am seeing a financial adviser. She asked me to get the costs. It’s important.”

Clerk: “Let me ask my supervisor, excuse me.”

Supervisor: “Good morning, may I help you?”

Samantha: “I have the brochure listing my choices for my 401(k) plan. I am seeing a financial adviser, and she is requesting the costs of each choice. It doesn’t say here.”

Supervisor: “If you have a 401(k) plan with us, you can find information in your account online. Also, if you want to talk to a person you’ll find a phone number on the brochure. Flat Tire Company contracts with an outside investment firm to help you with the 401(k) plan. Our company pays the fees for record keeping and administration at no cost to you. Each fund has its own expense, which you need to ask for.”

Samantha: “Great!”

Supervisor: “This is not the usual question employees ask. I know FTC contracts with Fidelity Investments; here is their number.”

Samantha:“Do we have retirement planning workshops for employees?”

Supervisor: “Yes, I was going to mention this. The next one is in two weeks. They are scheduled on the first Wednesday every three months. They’ll talk about all of your benefits: pension plan, medical, dental and retirement plans. It’s located in the employee lounge. They will answer all of your questions. From what I have heard, employees like the information presented.”

Samantha: “Great, thank you. Do I have to register?”

Supervisor: “No, it’s informal, just show up. Watch for the notice in the employee lounge.”

Samantha: “Thank you.”

Later that day…on the phone with an X Y Z  consultant

Samantha: “Hi, I’m trying to get information about my 401(k) plan. I’m working with a financial adviser and she wants to know the costs for the different choices.”

XYZ Consultant: “You can get this information online by logging on with your social security number and employee number. Are you in front of a computer?”

Samantha:“No, not now, but I will be later. I want to talk to you first (looking at her notes from her conversation with her adviser). My adviser wants to see FTC’s list of choices. I have the 401(k) list, but it doesn’t say what the costs are.”

XYZ Consultant: “FTC pays the costs for their employees and offers a 6 percent match. The company has been very happy with our services.”

Samantha: “I agree. FTC is a good company. Do you have the list of funds I can use in my 401(k)?”

XYZ Consultant confirms the following list with Samantha:

  1. Life Cycle Funds from TR Price 2015-2050
  2. Stable Value
  3. Long-term Bond Index
  4. Extended Market Index
  5. S&P 500 Index
  6. Growth Stock Index
  7. Value Stock Index
  8. Growth Stock Fund
  9. Small Cap Index
  10. International Stock Index
  11. International Stock Fund

Samantha: “Great, but it doesn’t have the costs.”

XYZ Consultant: “There are no costs because FTC pays the record keeping and the administrative costs. It’s in the contract between our financial firm and the company. Sorry, I am not privy to the information in the contract.”

Samantha: OK, it’s just my adviser wants to know what the costs are. She made it sound like there has to be costs.”

XYZ Consultant: “Of course, there are costs but as I have already said, you can tell your adviser there are no costs. This is a common agreement with 401(k) plans.”

Samantha: “Alright, I’ll take your word. I have two more questions. What are the ticker symbols?”

XYZ Consultant: “These funds are for the exclusive use of FTC employees, so most do not have ticker symbols, except for these three: A balanced fund is VWELX, Extended Market is VEXMX and the International fund is HANIX.”

Samantha: “Great, my adviser can find  out the  costs of those three with ticker symbols. Can I sell my FTC stock?”

XYZ Consultant: “Yes, after you have owned it for a year.”

Samantha: “Good, I have owned it for four years. My adviser recommends I sell some to diversify into a mutual fund. I have about 20 percent of my portfolio in the stock.”

XYZ Consultant: “Which fund would you like to trade your stock to?”

Samantha: “I don’t know. I’ll talk to my adviser first. Alright, it looks like I have all of the information I need. We’ll come up with a plan, and I’ll call back with my decision. Thanks.”

SAMANTHA’s   S E C O N D   A P P O I N T M E N T   W I T H   THE    A D V I S E R

Adviser: “You’ve done your homework. I’m impressed! How’d it go?”

Samantha: “I was anxious. I think this one guy got irritated because I kept asking about costs. Two different people assured me the company pays for the costs. I also learned about my other benefits. I didn’t know I had a pension too.”

Adviser: “Good. Later on, I want to know about your pension benefits for your long-term retirement goals. But let’s stay with what you have to do right now. I’m looking at your company’s 401(k) plan on this website, Brightscope.com. It evaluates plans for thousands of companies. Take a look on my computer. They rated your 401(k) 77, an above average score. Fees are 1.64 percent. It’s high, but fortunately for you, your company pays for this.”

Samantha: “The clerk said people never ask about fees.”

Adviser:“It’s strange. But he is right, people usually don’t ask about costs even though they do with everything else in life. Let’s move on. We have a lot to cover today. We want to diversify.”

Samantha: “Yes. I am free to sell all of my shares.”

Adviser: “Do you want to start your stock option plan again? I think it’s a good idea to take advantage of the 15 percent discount.”

Samantha: “I’m not sure. Can I wait?”

Adviser: “Of course.”

Samantha: “Shall I sell all of my stock?”

Adviser: “Yes, if you are comfortable. As you know, there are no tax consequences in the tax deferred plan.”

Samantha: “Can I do half?”

Adviser: “Yes. An excellent start. You have enough money to construct a portfolio and diversify into some of the asset classes. Do you know about asset classes?

Samantha: “No.”

Adviser: “Asset classes are the “core” stocks which most portfolios should have. You want to know where the proceeds of the FTC stock are going to set up a diversified portfolio.These core classes are called large-cap company, intermediate-cap, small-cap, international and bond funds. There are large and small-cap internationals too, which we’ll discuss next year. All portfolios should have these core classes. They provide growth and stability. Are you following me?”

Samantha: “What does ‘cap’ mean?’

Adviser: “Cap is short for capitalization. The size of the company is determined by their capitalization, their number of shares times the price of the stock. Apple and Exxon are the two biggest companies because their total share value is the highest of all 500 corporations here in the United States offering stock to the public. The familiar name for this group of large-cap companies is the Standard and Poor’s, or the S&P 500 index. So you see how diversification is set up with these 500 large- cap companies in one fund. Neat, huh?”

Samantha: “Yes, I hear about the S&P 500 in the news.”

Adviser: “The S&P 500 index is one core holding. The other two are mid-cap and small-cap. You are lucky the Extended Market index is available (VEXMX). It’s from Vanguard, and it only charges .28%.”

Samantha: “How did you know?”

Adviser: “I already knew this ticker symbol, but if I didn’t I could do a Google search with the ticker symbol V-E-X-M-X. It will take me to the fund company website offering this fund and I can find out all the information I need to get started. But we’re lucky—I already know this excellent index fund.”

Samantha: “That’s why you asked me to get the ticker symbol. I have a funny feeling you like this fund”(smiling).

Adviser: “You are very lucky  this fund  is available to you. It has medium size companies and small size companies in the same fund. Your company plan has the S&P 500 index and the Extended Market index available. With these two funds, you own a piece of all of the domestic companies. These are good  to start with. As your portfolio grows, you’ll eventually invest in several asset classes outside the United States, for example, with an international fund for broader exposure. You already have a fixed account in ‘stable value’. By the way, $35,000 is not chump change. Very few 30-year-olds have so much put away for retirement and have no credit card debt!”

Samantha: “My parents pushed me to save even as a child and we’re all pleased how savings add up. Aren’t foreign company’s risky investments?”

Adviser: “Yes, they are and so are American companies. All investments have risk. Let’s talk about risk. The books on the list I gave you talk about risk. Here is a short course: Most people understand the basic premise of diversifying  investments  –  the idea  not to put all your eggs in one basket. But they don’t  know how and they sometimes think diversification eliminates risk. Diversification helps manage risk; it can’t eliminate it. One end of risk is doing nothing with your money; putting it under your mattress. In a sense stable value is safe, but it doesn’t earn enough to keep up with inflation. The other extreme is to bet it all at craps in Vegas. It might work but more likely will cost you everything. Proper investment risk consists of finding a balanced middle ground between growth potential and protection from down markets. A single stock, even your FTC stock, is unpredictable which is why we recommend funds.

With 20 percent of your money in FTC stock you probably know what I am going to say—you’re taking a big risk over the long term. And yet with a 15 percent discount, a short-term risk is worth the risk. After a year, sell the stock and reinvest the money into a broadly diversified index fund.

Flat Tire Company is a large-cap company, so it’s in the S&P 500. Its total stock value is $60 billion. Remember, you still own FTC stock in the S&P 500 with 499 other companies too.”

Samantha: “I thought that’s what you’d say about my FTC stock, after you talked about being diversified in different companies. Interesting, FTC went down and then it came back just as my work colleague said it would.”

Adviser: “What if it didn’t recover, like Enron or WorldCom the long distance phone company? Those unfortunate employees thought the same thing about their company and they lost all of their savings. Of course, it’s the worst case scenario. The volatility alone about investing in one company is not a good thing for long-term growth. Look, it’s fine to invest in FTC stock, but 4 percent of your holding is reasonable and less risky.

Remember how you felt when it first went down? You stopped buying. That was scary.”

Samantha: “Do I remember! After what I have been through with my company stock in 2008, I get it!”

Adviser: “Great. Does the company offer a match to the 401(k) plan?”

Samantha: “Six percent.”

Adviser: “Smart move, you realize it’s free money. How are we doing?”

Samantha: “When I came here I wondered if I would trust you with my money, like, what would you recommend and would the investments be good for me. But that’s not what you have said at all.You are not recommending individual stocks, you’re recommending I invest in all available companies. It’s information I didn’t expect. You have reversed the decisions and put the responsibility right back on me. The most convincing part is your recommendation of the broad asset classes which invest in all companies. Furthermore, you showed me how I can take responsibility and make the decisions. Not necessarily the right or wrong decision to invest in this or that particular investment but to decide to invest in all companies. I believe I understand where we are going, and I am getting more comfortable. I get it about moving my money from owning individual FTC stock to an index reduces risk.

Adviser: “Yes, the point is to stick with a plan you set up and understand. The biggest mistake people make is trusting somebody else 100 percent with their money, paying too much for advice, not knowing enough about diversification and taking on too much risk. People may not admit it but they look for the one or two investments to get to their financial goals quickly.”

Samantha: “Yes, I like the slow and grow approach. OK, it looks to me like the S&P 500, and the Extended Stock Index will be a good start. I am investing in all available companies in the United States, and with the FTC’s 6 percent match in my 401(k) plan.”

Adviser: “It’s simple and straightforward. Index funds are a much better strategy for managing risk than actively managed funds because actively managed funds cost more and they take on more risk. You don’t need more risk. Because of lower costs the indexes outperform managed funds seventy to eighty percent of the time according to many academic studies. By staying with the indexed fund, you are passive in the sense you are not trading based on media hype or fears.”

Samantha: “Don’t managers also invest in the same asset classes?”

Adviser: “Usually not. They buy and sell trying to beat what you would have gotten if you just stayed invested in the entire asset class and be done with it. For example, I recommend the S&P 500 index from the list. You would be investing in the largest corporations in the United States. It’s an appropriate investment to start.”

Samantha:“Ben talks about buying and selling stocks, like the active managers. Is he doing something wrong?”

Adviser: “Well, his strategy is not the strategy we are talking about. I think you don’t want to buy and sell stocks.”

Samantha: “You are right. I hate it, even though I love my company. And the more I hear you talk about the indexes compared to trading stocks, the more I like passive strategy. It feels natural to me somehow.”

Adviser:“That’s because a study reports that women are better long-term investors than men. As we have been saying about long-term thinking, men are more likely to jump in and out of investments in the short-term whereas women think long-term and stick with the same investments. Guess what? Women’s investment returns are higher, duh.”

Samantha: “Really? How funny. Wait till I tell Ben, and my folks (laughing).”

Adviser: “What is equally interesting is that women are not any smarter investors than men. Women stay with their investments longer, avoiding all of the costs associated with trading, buying high and selling low. That’s all.”

Samantha: “Thanks for telling me that. I thought I had to trade to be a successful investor. This is reassuring.”

Adviser: “Other people think advisers can pick winners. We can’t! I don’t know the next hot stock.Warren Buffett says he doesn’t know either. But people are funny. They think just because someone has financial training, a certificate, a practice and a computer, they can find the next stock to make them rich (also laughing).

“My philosophy is long-term, slow growth, low costs, and broad diversification with rebalancing. Slowly grow your portfolio until you retire. For you, that’s in 30 years. My job is to help you stay the course, stick to your plan, over good times and bad. I am your support when the market acts up and that’s when your trust in me will be challenged. You know, when your stock went down 30 percent four years ago, I would have said the same thing your work colleague said: ‘Don’t sell, it’s going to be OK.’”

Samantha: “Sounds like you offer more than just a strategy and information, but psychological support too?”

Adviser:“I am not a psychologist. But yes, that’s how I can assist you, after you set up a plan today. I will not leave you alone. Just one step at a time. One of the books I recommend is a book on psychology called Your Money and Your Mind by Jason Zweig.

“When it comes to losing money people get irrational. People think they have good sense but most overreact with terrible consequences. It’s a normal response to freak out, but disastrous for your long term plan. But you couldn’t sell and it bounced back. That emotional experience cannot be taught. The next time a loss happens you won’t be so upset. You might feel bad in the short term and wonder where your adviser, me, is leading you but you’re less vulnerable to panic selling.”

Samantha: “The indexing strategy, low costs and all, doesn’t get rid of my worrying about losing money, does it? But I am relieved that you told me now that my trust in you might be tested when the market goes down. You know your business. You can predict people’s emotions ahead of time, but not the market. Interesting.”

Adviser: “But you also know that no strategy can eliminate risk and that information should relieve you also. The indexing strategy reduces risk. Diversification, education, and thinking long-term have a better chance of protecting you from losing sleep. Steep losses are short- term and are almost always due to poor diversification. Your reading homework talks about managing risk which will reduce your worry and the resulting irrational decision making.”

Samantha: “The investment book I read didn’t say anything about indexing. When the market goes down, the index goes down too, right?”

Adviser: “Yes it does. Most books don’t talk about indexing. The books I’ve compiled for clients follow John Bogle’s strategy. The easiest way to think about index funds is to visualize the index fund’s relationship to the broad economy — companies, services, people working, companies growing. Think about the  5000 or so companies in Fidelity’s or Vanguard’s Total Stock Market Index representing our economy.An index fund invests in all of the available companies. The economy grows because the companies grow and so will the indexes because they follow the broad economy—the companies and the economy are one. You only have to trust the broad economy across the entire planet will continue to grow over the years.

In contrast, active mutual fund managers and stockbrokers want to make more than what the economy can provide. Sometimes they get lucky and pick the fastest-growing part of the economy, like technology during the bubble in the late 1990s, but then fail to pick the next part or sector. Their performance inconsistency is unproductive and extremely costly. Dalbar, a respected research firm, reports from 1991 through 2010 the S&P 500 20-year average was 9.14 percent, while the average mutual fund investor earned 3.83 percent.”

Samantha: “Wow! That’s a big difference. Why do so many investors fail?”

Adviser: “Like we discussed, they jump in and out of the stocks or funds, buy high and then sell them low when they get scared and into a fixed account to stop the bleeding. In addition, they pay capital gains taxes, trading costs, front-end and back-end commissions. In an index, none of those fees apply and the index returns what the broad economy returned over those years.”

Samantha: “Your explanation of what investors do wrong makes sense. I didn’t understand what you meant when you first said experiencing stock market volatility is not easily taught, but now I do. My stock has recovered and went higher after the 2008 crash. I think I made money on my stock because I bought some stocks when it went down. I should have kept buying when the shares cost less. But everybody was selling, except my one colleague. I am beginning to understand about long-term thinking and how risk can work for me, not against me.”

Adviser: “Exactly. And you heard your colleague say to you, ‘Don’t worry, the stock will recover.’ Most people would have thought her a fool for hanging on to a losing stock.”

Samantha: “I feel good about our conversation. When I first called for an appointment, I had never thought about this. I forgot why I came here because   I am learning so much now. I’m smart, but finances, money and investing were those things somebody else understood. But you kept explaining the big picture. When you said only I can take the responsibility, I thought what the heck am I paying you for? But you’re right. I’m still a little foggy on the details , but the major idea is investing may not be as complicated and intimidating as I thought it was. Investing in the broad economies did it for me. Thanks.”

Adviser: “Besides experiencing risk and volatility, thinking long-term is difficult for most people. You understand this and you are on your way to managing a responsible retirement plan.”

Samantha: “Well, I’ll have to take your word.”

Adviser:“No you don’t. People look at their investments at the moment of a market crash and just don’t see better days ahead. Or they didn’t anticipate market declines by allocating enough in bonds during bull markets. In other words, they didn’t have a plan. You’re fortunate. You understand risk, volatility and thinking long-term by having a plan.”

Samantha:“I think I got it. I feel comfortable transferring half of the $28,000 into the Extended Market Index. I’m glad there are no taxes because it is tax-deferred. And I’ll have a plan to help me understand and keep on track.”

Adviser: “Great. We’ve achieved a lot today. Let’s write up your plan. You know how to make those changes. I’ll recommend just two changes to jump-start your plan. Always remember we’re planning for the long term and we’ll make additional changes later as you contribute more money. Sorry for the mini-lecture, but this is the first step and will diversify your current holdings. OK?”

Samantha: “It’s a deal and you’re not lecturing. I need to hear this. Show me what I need to do. I can handle two changes and see how it goes, although I am a little nervous.”

Adviser: “Change is always difficult, but after you see your  plan,  you  will  be  more  comfortable. You have $35,000 total: $7,000 in stock plus $28,000 in the stable value. I recommend you sell half of the stock holding and invest it in the S&P 500 index. I would take half of the Stable Value fund and put it into Extended Market Index, $14,000. These two moves give you your first diversified core holdings.

Your monthly contribution continues to go to Stable Value. We’ll wait for about a year and when you’re comfortable again, we can move to Phase II. Next year you put the rest of your FTC holdings into the S&P 500 and move $14,000 from Stable Value into the International Index. How does that sound?”

Samantha: “Perfect.”

A D V I S E R   A N D   S A M A N T H A   C R E AT E   A   P L A N

Samantha’s Current Portfolio

FTC Stock:  $7,014.07 (20% of Portfolio, 77.77 Shares@$90.19) Stable Value:  $28,000.00 (80% of the Portfolio, earning 3%)

After today’s changes, SAMANTHA’s portfolio will look like this

Phase 1

FTC Stock $3,500 10% of total holdings
S&P 500 Index $3,500 10% of total holdings
Stable Value (fixed account) $14,000 40% of total holdings
Extended Market Index (VEXMX) $14,000 40% of total holdings
Total $35,000 100% of holdings

Next Year

(All account figures below are estimates. Future portfolio growth is unknown)

Phase 2

FTC Stock: $0.00 (Remaining shares will be sold and transferred to the S&P 500 Index [Will decide about purchasing more stock via the stock option plan.])

S&P 500 Index: $7,000 (15% of Portfolio, from FTC Stock account).

Stable Value (fixed account): $10,000 (22% of Portfolio, estimated contributions for the next 12 months). Will decide to either continue contributions or buy directly to the International Stock Index account.

Extended Market Index (VEXMX) $14,000 (31% of Portfolio)

International Stock Index  $14,000 (31% of Portfolio)

Total: $45,000 (Estimated) 100% of holdings

Additional Notes from the Adviser:

  • Read John Bogle’s book to learn about indexing Log on to the www.boglehead.org in- vestment forum and/or the www.403bwise.com investment forums to ask questions and read what other individual investors are doing.
  • Unless something urgent is needed, we will not need my services for the next 12 months. In the coming years, we will eventually set up a 70 percent equity/30 percent bond portfolio.
  • After the Phase 1 changes, the portfolio has about 60 percent equities and 40 percent fixed securities. This stock/bond split is too conservative for a 30-year-old, but it is an appropriate starting point.

Adviser: “Let me explain your plan. After you make the first two changes, you’ll have about 40 percent fixed accounts and 60 percent stocks. Investing in  stocks will provide the growth to outpace the negative effects of inflation. The reading material will help explain in detail how and why equities grow more than bonds. Right now you have no international  investments.  But after your portfolio grows you’ll consider them next year. Your portfolio  will  be  diversified  enough in phase 1, except you’ll still have about 10 percent of your holdings in your company’s stock, which will be reallocated next year. This is your plan; it’s a great plan. You did much of the work. Congratulations Samantha!”

Samantha: “Really? Looked to me like you did most of the work.”

Adviser: “OK, I put the pieces together and  explained the big picture. But you brought the necessary pieces—you requested diversification assistance, you experienced stock market volatility, you found the mutual funds available from your company’s plan, you saved $35,000 and you took your family’s and your fiancé’s advice by coming here. That’s a lot of work and responsibility! What’s important is you understand how most of those pieces fit together.”

Samantha: “I did all of that? You know, I think this’ll work. I have learned a lot. I didn’t know diversification meant to invest in not just more stocks, but different types of stocks in different industries, different sizes of companies and other countries. I’d never thought of investing in foreign countries.Now Iknowhowstocks are already diversified in the major asset classes that reflect these differences. I still don’t know about rebalancing.”

Adviser:   “That’s because we didn’t talk about rebalancing. We will talk about it next year. Show your plan to Ben, your parents, and Carolyn and Madison. How does that sound?”

Samantha: “Great!”

Adviser: “Any final questions?”

Samantha: “No. Not right now. It was a pleasure talking with you. One month ago investing was the last thing on my mind. I was just saving. But now I am thinking about growing my money for the future. Thanks again.”

Adviser: “My pleasure. I’ll see you in about a year and we’ll discuss your progress and phase two. Remember you can call me anytime.”

Authors’ Debrief

This conversation demonstrates the guidance of the client toward taking personal responsibility for choices rather than simply steering toward pre-selected advisor‘s products (funds or annuities).

  1. Fee-only Advisement Cost for Samantha: 5 hours is $500 out of pocket.
  2. If Samantha’s money were in an actively managed fund paying the adviser commissions (Load):

$35000 x 3% commission + 1.25% annual expense ratio =$1050 + 437.50 = $1487.50. As Samantha increases her portfolio, the annual expenses would go up.

  1. Investing may not be as complicated, risky or varied as commissioned salespeople would like you to believe. If they can convince you they are financial shamans, there to relieve you of all losses with riskless fixed accounts, rest assured, they will relieve you of the full market returns you deserve.
  2. A genuine fiduciary will never enter into any real or potential conflicts of interest when recom- mending investments to clients and will never make changes to your plan without your approval and understanding of how any change will help achieve your financial goals. 
  3. Notice, nowhere in this hypothetical conversation did Samantha and the adviser drift into distracting topics which would not help Samantha’s need to understand her plan. Topic examples, the future of interest rates, China, politics, past, present and future market conditions, gold, real estate, sector funds, futures, options, annuities, the future of the Euro, Greek debt crisis, and on and on. There are all distractions and reflects the financial media noise machine. Ignore it all.

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