This group of advisers miserably failed test

There was a recent study conducted by Antoinette Schoar, professor of finance at the MIT Sloan School of Management, that should be disturbing to all investors.

In a study to analyze the quality of investment advice commonly given to investors, they sent a team of “mystery shoppers” to financial advisers. They acted like regular customers who were seeking investment advice regarding their retirement plans. They also emphasized various levels of bias or misunderstanding about investing.

What they discovered was, to say the least, quite disturbing.

The advice they were given by advisers only reinforced their bias and misunderstandings. It was disturbing to learn that the advisers only reinforced these misunderstandings if it made it easier for them to sell them higher and more expensive products.

In addition, the advisers strongly recommended actively managed mutual funds. In only 7.5 percent of the time did they recommend index funds. This is the opposite of what research has suggested – that the average investor is better served with low-cost index funds rather than actively managed ones.

Also, if advisers even mentioned fees, they often downplayed their importance.

Their study also showed that the proposed fiduciary standard can benefit investors. They found that advisers who have a fiduciary responsibility with their clients offered better and less-biased advice than those who were not fiduciaries.

For those who are or will be talking with new investment advisers, there are a few things you may want to do to make sure the adviser is putting your needs first.

I strongly suggest asking how they manage current clients’ accounts. Give them little or no information about how you invest. This is counter to what normally takes place, but the adviser should be able to articulate how they invest their client’s funds.

▪ Do they use a particular investment process?

▪ What are the specific products they choose?

▪ Are they individual stocks and bonds or mutual funds or indexed funds, or a combination?

▪ What are the costs of those funds and how does the adviser get compensated?

▪ What other investment products do they recommend?

Let them do the talking first.

I have written often on knowing the total cost of management. You need to know what the adviser’s fee is to the cost of the underlying investments to transaction cost. You should know all of those fees not only in percentage terms but in dollars. The adviser should not gloss over the fees.

In some accounts, mutual funds make sense. If you are invested in large cap mutual funds, though, you should ask yourself and your adviser for a reason. Just 15 percent of actively managed large cap mutual funds over the past decade have beaten the index fund(s) that cover that large cap space.

Most investment advisers and financial advisers put the client’s interest first. But to make certain an adviser is putting your interest first, don’t forget to have him or her explain how and what type of investment process and specific investments they use before showing them your hand.

Hopefully that adviser will pass the test.

This story was originally published November 21, 2016 at 11:58 AM with the headline "This group of advisers miserably failed test."