Hiring a financial advisor means taking a giant leap of faith: here's my hard-earned money, make it grow. You are putting your financial future into their hands. The investment process can seem complicated, convoluted and confusing. Ask your advisor to explain the process and you may soon be suffering through a barrage of jargon and pie charts.
We asked three financial advisors to explain their process -- in plain English.
The discussion begins with risk
"Without the questionnaire, we would find that people would claim to be aggressive investors only to panic when the market goes down 100 points," he says. "Time frame is also important. If a client won't be using this money for 20 years, they can weather the ups and downs much easier than if they need the money in two years."
Completing such a questionnaire is simply a guide to help you consider the amount of losses you think you are willing to withstand, but the process is certainly not an exact science. Rutgers University has been developing research on measuring financial risk. You can take a quiz to contribute to the study and perhaps gain a bit more insight into your own personal preferences.
Patience is key
Steve TeSelle, CFA, says that investors tend to get nervous after a period of time: the market is too high, or it's too low - or even too "just right." That's when they need to lean on an advisor to help make the right move - or perhaps no move at all.
"Re-balancing is good; asset allocation changes in response to price changes are bad," he says. "Most of my clients know my message -- stick with your long-term asset allocation strategy. They probably roll their eyes at my eat-your-vegetables approach, but they can see how the strategy has worked for them."
Mike Keeler echos Steve's sentiments. "One of the biggest mistakes I see is people making knee-jerk reactions. For example, during the government shutdown many people wanted to go to cash because they were scared. Unfortunately for those who did, we had some really big gains during that period."
Choosing the right money manager
Choosing the right investments for clients goes beyond hand-holding, though. Behind the scenes is an analytical process of vetting managers, balancing risk versus reward and considering management fees. Patrick Cloonan, CFP, is based out of East Petersburg, Pa., and gives us a peek behind the curtain:
"Various steps are taken when reviewing what investments to choose, but a few that I can share would be the costs, tenure of managers, active versus passive, if there are transaction costs to purchase or sell the security, the risk the portfolio takes, and performance versus the investments peer group. I build model portfolios based on a client's ability to take risk," Cloonan says.
"I have found most people fear downside more than upside participation, so I ask them what would they do if their account went down in value over a quarter, a year, etc.," he continues. "I do a lot of comprehensive financial planning, and when I do that, I often find that clients may not have the best mix of investments based on the goals they have. They may also have investments that may have been appropriate when offered, but are no longer."
Before meeting with your advisor, take some time to think about your "risk appetite" - how much short-term loss can you absorb and still be able to sleep at night? What are your realistic financial goals? And what questions do you want your advisor to answer for you? This will make the conversation much more productive and a lot less intimidating.