A new paper gives strong indication that on average, individual investors are really poor investors. I mean, really bad. Enough that by the end of the day, they’d be better off sitting in cash than trading on their own. It treats them to the sort of analysis which we usually subject mutual fund managers to, and finds that they’re no better, i.e. worst than a passive strategy. Continue reading Want to increase returns by 8.5%? Close your online trading account.
Relevant NYTimes article on varying needs for financial advice.
There are tens of thousands of advisers out there, with varying levels of expertise, who charge varying fees for their services. And professional advice doesn’t guarantee good returns. You need look no further for evidence than the market collapse of 2008-9, when most people lost money, even those with the supposedly ideal mix of investments, hand-picked by their financial planners.
First, the idea that financial advisors help you escape risk is wrong. Even an all-cash or AAA bonds investment is subject to risk, as inflation means the outcome is still uncertain. Second, the purposed of that “ideal mix” of investments is meant to get the best expected return, given the amount of risk you are comfortable taking on. Risk is never removed, and you should expect to experience losses at some point during your investment.
The big question is why and when is it worth paying for financial advice? The crux is the different types of “cost” you need to avoid depending on your circumstances. Going it alone incurs the cost of beginners’ mistakes– bad tax choices, low diversification, high-cost products, and most crucially, churning your investments over the market cycle. Paying a financial advisor incurs their fees and the possibility they guide you to investments which make money for them, but aren’t perfect for you.
Generally, the higher the stakes (your wealth level), the more important it is to use an FA. The potential long-term costs of beginners mistakes became very large as you get serious about investing, and you will learn the qualities of a good financial advisor quickly. They are focussed on controlling costs, the long-term view, asset allocation, and most critically, understanding the nuances of who you are. And, having a second opinion helps make less irrational decisions over the market cycle.
Unless you wake up and see Warren Buffett in the mirror, it might be worth it to pay someone to stay the course.
The final point is quite right – Individual investors tend to be bad at choosing when to invest in, and when to pull out of, the market. In fact, they lose seriously playing this game.