Unfortunately there is not much clarity on the different types of financial advisors out there along with the pros and cons of each. So let me shed some light on the major types, since I believe most investors are completely in the dark in this respect.
In-Branch Financial Advisors: You will find these at bank branches. Generally speaking you need only be a client of the bank and whenever you have a question about starting to invest, a teller will refer you to one of these in-house financial advisors. They are normally restricted to selling mutual funds and GIC’s and that’s about it. In most cases they can only sell you their own bank’s brand of mutual funds, but these days the product shelf is opening up to third-party mutual funds (which basically just means mutual funds offered by other banks and dedicated mutual fund companies). These advisors are paid a salary plus bonus based on the volume of business they generate. The mutual funds they offer are all “no-load” which means there are no out of pocket costs for buying or selling the mutual funds – only the ongoing MER’s (Management Expense Ratios). There is not much latitude afforded to them from the banks to create custom portfolios – rather they will have you fill out a short questionnaire which will dictate the packaged portfolio option of mutual funds for you to invest in. They are normally only required to be licensed by the MFDA (which is the Mutual Funds Dealers Association). This means they are not licensed to speak to you about individual securities like stocks and bonds. They do not create complex financial plans, but can help you make certain financial projections for individual goals. They do not offer estate planning, insurance planning, advanced tax planning, etc. like a full blown financial planner might.
Mutual Fund Sales Representatives: Very similar to an in-branch financial advisor but commission-based for the most part. They can work for mutual fund companies directly (a tell-tale sign is if they only sell a certain line of mutual funds), or they can work for a financial services company that only deals with mutual funds and GIC’s. There are two main differences between the Bank Mutual Fund Sales Reps and non-Bank Mutual Fund Sales Reps: The non-bank advisors earn their keep through commissions. Predominantly this is through the selling of back-end loaded mutual funds, also known as DSC funds in the industry which stand for “Deferred Sales Charge”. Almost throughout the industry if a mutual fund is sold as a DSC fund, the advisor makes a 5% up front commission and a 0.25% trailer fee every year. Investors will pay a redemption fee (deferred sales charge) if they sell units in these funds within a certain time frame (normally 7 years). The deferred sales charge also decreases every year until it eventually reaches 0% after the 7th year. Mutual Fund Sales Reps also have the option of selling Front-End load funds where a sales charge is charged right up front and payable by the investor immediately – this can range from 0% to 5%, but normally advisors will not charge more than 2%. The trailer fee is higher with Front End funds and No-Load funds, usually around 1 – 1.25% for equity funds per year. Mutual Fund Sales Reps can also be Life Insurance Licensed, which means they can also sell insurance and segregated funds (the Life Insurance industry’s version of mutual funds). They can provide more personalized advice than a bank in-branch financial advisor since they have to bring more value to the table and are comissioned-based. A salaried advisor at a bank has no real “fire” lit under them to perform at a higher level. More senior Mutual Fund Sales Reps will have a CFP (Certified Financial Planner designation) and will argue that mutual funds are the best investment available because it downloads the actual investment management to a fund manager so the Mutual Fund Sales Rep will have more time to create detailed financial plans.
Stockbrokers: Stockbrokers are licensed to sell anything. Instead of being limited to mutual funds and GIC’s they can provide access to individual securities like stocks and bonds, alternative investments like hedge funds, options and other derivatives and tend to be more in tune with the markets. They can help investors employ complex investment strategies and basically have no limits on the investment products available. Stockbrokers can also be Life Insurance Licensed. They are commission based and can earn a commission on mutual funds just like a commissioned mutual fund sales rep and can earn transactional commissions on stock and bond trades. They can also charge their clients a flat fee instead of using a transactional fee structure. For example when investment portfolios get larger, they might instead charge a flat 1% fee to manage the client’s portfolio which could include mutual fund trades, stock and bond orders, option writing, etc. and the fee doesn’t change, nor does the broker earn the mutual fund trailers or up-front commissions. A client making few trades per year might be better off with a transactional fee platform and an investor making 4 trades a month might be better with a flat fee. More active traders generally do not use a full service stock broker and will trade their own portfolios using a discount on-line brokerage. Generally, a stockbroker will require that their clients have a minimum level of assets to invest (starting at $50,000 for some firms, but $100,000 is the norm for most). One criticism of stockbrokers is that they are more investment focused and not so much interested in full financial planning, but more and more stockbrokers are earning their CFP designations (Certified Financial Planner) or otherwise engaging in full financial planning for their clients. They will tell you if they engage in financial planning or not and the fees may vary depending on that.
How do you know which one to use? First and foremost picking a financial advisor is a very hard thing to do. Assuming that there is a financial advisor at every level who is knowledgeable, service oriented and professional then the choice of which one to use at different times might look something like the following description. When you are a student in high-school, no-one is going to give you the time of day, let’s be honest. You will have a bank account and if you actually decide to start saving money for the long term you would use an in-branch bank financial advisor. You might continue on with using the bank branch advisors (who might be different every couple of years) until you are done school. Money hasn’t really been much of a focus in your life up to this point so you might not have much to invest. A commissioned mutual funds sales rep might be knocking on your door at this point to offer a more personalized service – i.e. a regular advisor that you meet with who will develop your first real encounter with investing and some basic planning. You may continue on with this type of advisor until you reach the $50,000 – $100,000 mark.
At this point, investing in mutual funds may not be the most cost effective method of investing. If you are still at your bank, they will start to refer you up to their “Wealth Management” departments (which is where the Stockbrokers work). If you are with a non-bank mutual fund sales rep, then you might stay because you don’t know any better or you might leave when your comfort and knowledge increases to the level where you realize the fees you are paying for mutual funds might be excessive.
Once you get to the $250,000 mark you may switch to a flat-fee account with your stockbroker, or “wrap account” in order to further reduce your investing fees. If you are more of a buy and hold type of investor with your individual stock and bond positions, you might stay with a transactional fee structure. You may stay at this “level” until the day you die.
But, in some cases you may take another step. Another option becomes available which is known as a “discretionary” account in which you sit down with your stockbroker and outline a disciplined investment philosophy for your portfolio and you allow your stockbroker to make trades in your account based on your guidelines and without having him call you every time for your blessing to enact the trade. If your account is large enough and you hold many different individual securities this option may save time and hassle.
Well, sort of. I got the idea for this post from a reader who had asked for some advice on picking their asset allocation for their Group RRSP – so I suppose I should mention that many investors only have Group RRSP accounts (or pensions) for their retirement savings. The advisors for these Group RRSPs for the most part (if they are with large companies) are 1-800 numbers with licensed advisors on the other end who have no real connection to your financial situation. They will answer your questions, but will not assist in creating complex financial plans or developing as deep a relationship as you could find with a personal financial advisor.
This post really only covers the three broad areas of financial advisors. I didn’t write on the Insurance Agents out there who can sell segregated funds – one might say that while they are more knowledgeable on insurance matters, they might be best left out of the investing end of things… etc. If anyone has questions, fire away. I’ve seen all sorts of advisors out there and of course many of the advisors I started my career with have diverged into countless different financial advisory roles – all of which I have to know if I am better able to compete with them. :)
I also didn’t speak about the fee-only planners who write up financial plans and provide basic asset allocation recommendations for more knowledgeable investors to implement on their own. They may charge an hourly rate for the financial planning and leave the investing up to you.