Does your wealth manager measure up? That is “the right question” according to the CFA Institute. But most people don’t even know that “CFA” stands for “Chartered Financial Analyst.” And they have no idea what that designation means or how a CFA Charterholder might stand out from among wealth managers with other credentials. This article will lay out why the CFA charter is widely considered the “gold standard” in the investments industry.
Anyone Can Be a Financial Advisor
There are no more insurance salesmen or stockbrokers anymore. They have all become “financial advisors.” And all financial advisors seem to have letters after their name. Some must think the more letters the better. There are few regulatory requirements for becoming a financial advisor. Hundreds of certifications are available to financial advisors to choose from. Many are not terribly rigorous or demanding.
One of the best-known commentators on financial advisors, Michael Kitces, observes that “the actual exam and educational requirements to be an advisor are remarkably low. In fact, the licensing exams for financial advisors do little more than test basic product knowledge and awareness of the applicable state and Federal laws.” Because many financial advisors were formerly stockbrokers or insurance salesmen, this is not surprising. “Advisors are really just product salespeople. And the bar to determine if someone is ‘capable’ of selling a product isn’t very high.” The result is “advisor ignorance” and “sheer lack of competency.”
Is It a Business or a Profession?
That little emphasis is placed on knowledge and competence should not be surprising. The economics of giving financial advice strongly incentivizes selling, not studying. For most financial advisors, success is all about gathering assets and fee income for themselves, not generating investment returns for their clients. Just because they no longer make their money from commissions does not indicate that their mindset has changed.
Yet, the bulk of what most financial advisors actually do for clients is manage their investments. Most financial advisors make most of their income from asset-based fees managing client money. However, the marketplace does not demand that they be competent or experienced investment managers. They just need to appear knowledgeable to clients and prospects, who generally have an extremely low level of investments knowledge themselves. They do not need to do a particularly good job in the function of investment management. They just need to do well enough to hang on to their clients. In fact, many do not even provide enough performance information to their clients to enable them to evaluate their investment returns.
Financial advisors may call themselves “professionals,” but in reality, theirs is a business, not a profession. True professionals (medical doctors, lawyers, etc.) have rigorous exams that establish competency. The government prevents those without the proper licenses from practicing.
This is why I do not consider myself a financial advisor. I am an investment manager. I consider myself to be an investment professional. It’s partly about mindset—really putting my clients’ interest ahead of my own. It’s partly about my level of education, knowledge, and experience. And its partly about delivering a service according to the highest standards, whether for institutions or individuals.
The Three Credentials That Matter
It’s no wonder the public is confused by the jumble of letters that financial advisors put after their names. Most people probably just want an advisor that has some official-sounding designation, but they often have no idea what the designation means. In fact, certifications should be important to clients in selecting an advisor because they indicate a certain level of knowledge and training in the various disciplines that comprise financial advice. Of the myriad possible certifications available to financial advisors, “the only three that truly matter” according to Kiplinger Magazine are: CFP, CPA, and CFA. Forbes agrees that these three credentials “stand apart from the hundreds of professional designations. All three designations require extensive knowledge, continued education and adherence to strict codes of ethics.”
A Certified Financial Planner (CFP) is a generalist who has demonstrated competence in a number of disciplines, including 1) retirement planning, 2) estate planning, 3) employee benefits, 4) budgeting, 5) insurance, 6) taxation, and 7) investments. When more in-depth expertise is required, many CFPs will work with specialists while functioning as the overall coordinator on behalf of the client. For example, an attorney may draw up wills, trusts, and other estate-planning documents. An accountant (usually a CPA) may file tax returns and help with tax planning. An insurance agent may sell the policies the client needs. An investment manager (usually a CFA) may manage the portfolios or funds in which the client invests.
Tax planning and advice is often a component of financial advice, and the Certified Public Accountant (CPA) is the most widely recognized designation in this area. CPAs whose practice includes a lot of financial advice may obtain the Personal Financial Specialist (PFS) credential from the American Institute of Certified Public Accountants (AICPA) after passing certain educational and experience requirements.
A Chartered Financial Analyst (CFA) is an investment management specialist. Most money management professionals, including those who manage mutual funds, pension funds, and hedge funds, are CFAs. It is recognized around the world as “the gold standard” in investment management. The Economist magazine describes it as “equivalent to a specialized postgraduate finance degree, including a mixture of economics, ethics, law, and accountancy.” To earn a CFA charter, a candidate must 1) pass three sequential, six-hour exams, 2) have at least four years of qualified professional investment experience, and 3) commit to abide by, and annually reaffirm, their adherence to CFA Institute Code of Ethics and Standards of Professional Conduct. The gauntlet is rigorous. Exam preparation typically takes over 1000 hours of study. Fewer than 1 in 5 candidates pass all three exams and ultimate become CFAs.
The Do-It-Yourself Approach
We live in a do-it-yourself world. The internet has become the great leveler of the playing field. Why hire a lawyer to draw up your will when you can download a template free on the internet? Why pay an accountant to file your tax return when there is a free version of TurboTax available for download? Why use an advisor to manage your investments when you can easily invest in index funds yourself?
I actually encourage investors to consider the do-it-yourself approach, especially if their investment portfolios are relatively small. The sad fact is that unless you have at least $500,000 to invest, if you seek out a financial advisor, you are likely to be sold a high-commission investment product (often an annuity) with relatively expensive ongoing fees, because that is the only way the advisor can make enough money to make it worthwhile to deal with you. Even if you are able to find an advisor willing to provide ongoing investment management, the annual fee is likely to be relatively high compared to the advisor’s value-added. Most advisors purport to add value mostly by keeping clients from making foolish, emotionally driven changes in their portfolios after a market decline. They typically do not claim to be able to enhance a client’s returns or reduce their risk level with their investment expertise. They may offer “free” financial planning along with their ongoing “implementation” of the plan, but often their investments will be in index funds that you could just as easily invest in yourself.
However, more and more financial planners are offering a “fee-only” service. For an hourly rate or a fixed fee, they will draw up a detailed financial plan, which will typically include investment recommendations. Most will offer annual check-ups to monitor your progress and update your plan as necessary. Some offer ongoing asset management as well, and some do not. But the trend of separating financial planning from investment management is definitely growing.
How Important is Investment Management?
At some level of investment portfolio size, it just makes sense to hire an expert. According to a recent survey of wealthy investors, as wealth increases, so does the perceived value of professional wealth management. The most important attribute cited in selecting a wealth manager was “experience and savvy in investments.” And 54% of high net worth individuals, defined as those with at least $1 million in investable assets, reported having changed their wealth manager in order to better fit their needs.
When asked what area of expertise is most important in selecting a wealth advisor, a majority high net worth individuals selected “portfolio management” as most important, with “asset allocation” a close second. The personal qualities most important to these wealthy individuals were “professionalism” and “integrity.” And the most important evidence of this was “professional qualifications.”
As a client’s assets increase, they are more able to hire subject matter experts for each component of their overall wealth management requirements. They can hire an attorney for estate planning. They can hire a CPA for tax planning. And they can hire a CFA for investment management.
CFA. Chartered Financial Analyst. The gold standard in investment management.