Edelman Financial: Bigger Isn’t Necessarily Better

Because Edelman Financial Services is opening six offices in the New York/ New Jersey area, I accepted an invitation to attend a seminar by Ric Edelman, the well-known author, radio host and investment manager.  The talk was held at the luxurious Hilton Hotel in nearby Short Hills last week.

Here is my review.  As a public speaker, I gave him an A+.  He was entertaining and informative, and offered a very clear piece of advice: Buy-and-hold a diversified portfolio of low-cost institutional mutual funds. Certainly, I would recommend his firm over a broker from Ameriprise, Smith Barney, Merrill Lynch, etc.

Still, I would only give him a B to a B+ as an investment manager.  I realize that it takes a certain amount of chutzpah (nerve) for a solo practitioner like me to judge someone whose firm manages approximately $4 billion and has thousands of clients – my goodness, Barron’s rated him the No. 1 independent financial advisor in 2009 – but I believe it is my responsibility to give you my opinion.  Read on, and see if you agree with my assessment.

Points of Agreement

First of all, let me state the areas of agreement.  I think his basic message is absolutely correct.  Most individual investors have so many misconceptions and make so many mistakes that their results are generally terrible.  Edelman provides a useful service in summarizing the theory, evidence, and his personal experience to educate the public on what really works.  He correctly points out that investing in safe instruments such as CDs is just about guaranteed to cause penury in retirement, because the “safe” investments don’t keep up with inflation, especially after taxes are considered.

He convincingly explains in great detail the necessity for wide diversification, proper asset allocation and rebalancing.  He also shows that listening to the media is bad for your investment results.  Good for him!

Like so many good investment managers, Edelman recommends having a long-term strategy and the importance of being invested at all times.  He was quite convincing in explaining how past performance is no guarantee of future results.  His down-to-earth “toaster” comparison was so good that I plan to use it myself when the occasion arrives.

He also explained in detail why retail mutual funds are just way too expensive.  These are not just opinions, but are based on facts.

He graphically illustrated the high cost of being “out of the market” for even a short time.  According to the data, provided by Standard & Poor’s, the average yearly return of the S&P 500 from 1994 to 2008 was 6.5% per year, if you were invested all 3,827 days.  If you missed the 10 best days, that’s right only 10 days, your return was actually 0%.  What a convincing comparison for a buy-and-hold all-the-time strategy.

So in general, I applaud Ric Edelman for being on the right track.

Where we disagree

My first criticism is that, although Edelman emphasized the long term cost that inflation inflicts on client portfolios, pointing out that over the long term inflation has been 3.2%, he says that it is “too early” to be concerned about inflation. He is “monitoring the situation” and will change his strategy when he thinks it is appropriate. In my opinion, this is a very strange approach for someone who believes that you cannot forecast the future.

Since markets react very quickly to new information, I worry that Edelman will not be able to change his strategy at just the right time. Why try to “time the market” by saying that inflation is not a concern now? To paraphrase an old Wall Street saying, “No one rings a bell to let you know when you should be worried about inflation.”

The question and answer portion of the seminar revealed a position that I take exception to.  Edelman suggests that paying off a mortgage quickly is a mistake, because clients can invest the money for a higher return.  While this is a controversial area, I believe that it is comparing apples to oranges, because mortgage debt is a certain obligation, while investment gains are variable.  As with many personal financial issues, the right answer is “it depends.”  There are too many variables in one individual’s life to hand out one-size-fits-all investment advice.  For some people, paying off a mortgage is the right thing to do, depending on their tax situation and their risk tolerance.  The peace of mind a debt-free retirement provides is valuable to some people who are no longer trying to maximize returns.

And, frankly, I am concerned that he is recommending something that will give him more assets to manage and therefore increase his fees, without mentioning the conflict of interest.

When I decided to look up Ric Edelman’s previous books, including The Truth About Money and The Lies About Money, I was surprised to see reviewers on Amazon.com chastising him for his previous rejection of index funds.  While Edelman now (appropriately) denounces actively managed retail mutual funds (because they are a rip off to investors with their high fees and hidden expenses), it’s unconscionable that it took him such a long time to realize that. 

It appears that Edelman had been attacking the notion of index funds for years.  Interestingly, he now follows a correct passive approach to investing, which is very similar to index investing.  He just isn’t willing to admit his conversion (or his past mistakes, for that matter).

In addition, I have read that Edelman doesn’t require that his advisors be Certified Financial Planners.  If true, this is a very serious shortcoming. Real financial planners address more than just investments, and while the CFP certification is not a panacea, it does indicate the seriousness to master your craft. More than passing a 10-hour test, the continuing education requirements are invaluable.

Fees and Value

Edelman Financial Services uses low-cost institutional mutual funds and ETFs, as do I.  The firm charges annual management fees of 2% on the first $150,000, 1.65% on the next $250,000, 1.25% on the next $350,000, 1% on the next $250,000, etc.  There is no additional cost for buying and selling mutual funds, which is a plus.  Another good thing is that they are willing to take on clients with modest amounts to invest, as low as $50,000.

However, while all-in costs are less than you might pay a typical stockbroker, I believe that for individuals with as little as $250,000 or $300,000 to invest, his fees are higher than those of a typical independent fee-only financial planner.

An investor with $500,000 will have to pay Edelman $8,375 per year as compared to a typical $5,000 fee to a smaller financial planning firm. An investor with $1,000,000 will pay Edelman $14,000 per year as compared to $10,000 for most boutique firms.  And many of the fee-only planning firms use the same low-cost institutional mutual funds and ETFs that Edelman does.

Conclusion

I have received mixed reviews from other financial planners regarding Edelman Financial Services.  Some call his portfolios cookie-cutter, which may or may not be a fair description.  Others have pointed out that there is very little attention paid to asset location, as compared to asset allocation. One financial planner told me that there was no effort to do tax loss harvesting, but another one said “it depends” on the client.  These are issues that many investors will not even be aware of, but the answers can influence after-tax returns.

Certainly Edelman’s services are better than working with a typical stockbroker, who might put you into a bunch of expensive retail mutual funds or sell you a variable annuity.

However, investors should understand that they are paying a premium for a celebrity’s name on the door.  And something a potential client should definitely ask is how much financial planning will be done, in addition to investment management.  The answer to that may also be “it depends.”

For a second opinion, and to help do a cost comparison, use “Find an Advisor” at the National Association of Personal Financial Advisors’ (NAPFA) web site and interview other financial advisors.

Why You Need a Financial Planner

“An idiot with a plan is better than a genius with no plan.” - T. Boone Pickens.     

The stock market has been volatile, and the headlines have been scary. And that description has become common over the last year or more.

Given the state of the U.S. economy and the U.S. stock market, and indeed, all financial markets worldwide, how confident are you that your financial plan is on track?  While books and computer programs may help you plan your future, there are several reasons why you should seriously consider seeking the advice of a qualified financial planner.

Planners know that it’s about more than just money.

At its core, financial planning is about effectively managing financial resources so that you can lead a happier, more fulfilling life today and tomorrow. One of the very first steps in a financial planning relationship is to help clients define their life goals. Do you want to start your own company, buy a second home, retire early? How do you balance competing goals, such as saving for retirement, while simultaneously putting your children through college and helping out your elderly parents?

In our financial planning, I meet with clients periodically to reassess their goals and the strategies that will help them to achieve those goals, especially as life circumstances change. No financial planning or investment software program can effectively come up with those kinds of questions — let alone provide the right answers.

Planners see the whole, not just the parts.

Many financial specialists provide valuable services to people for a specific financial need, such as buying property and casualty insurance or drafting a will. However, a comprehensive financial planner provides the overview, in order to make sure that the various parts are working in harmony. That’s why I call myself a Personal Chief Financial Officer. A company has a CFO, so should a wealthy or moderately wealthy individual, or anyone with similar desires.

As a Financial Planner, I can often see something that is missing but is needed, something which the client had never previously considered. One example was a client who had a sizeable life insurance policy in place, but should have had it owned by a Life Insurance Trust. This would save what amounted to a lot of money on estate taxes.

Another client thought she was contributing to her employer’s 401(k) plan, but she wasn’t. She had returned from a maternity leave, and somehow the paperwork never got completed. While a computer program might provide generic investment advice (not necessarily well tailored to your individual needs), a financial planner can spot the missing ingredients.

Planners motivate.

You probably know that you need a will, more insurance, a budget, a better handle on your investments and true assessment of a host of other financial issues. Perhaps you could do some of it adequately on your own. But, there’s nothing like going to a financial planner to motivate you to finally take the actions that you’ve been procrastinating about, all along.

From my experience, procrastination is a huge problem. As part of the financial planning process, I typically use an Action Plan for clients and for me, to make sure that recommendations and specific tasks are accomplished in a timely manner.

Planners provide checks and balances.

Beyond the financial expertise and the motivation to take action, the planner can provide a much-needed objective perspective. Numerous studies have shown that investors who work with financial advisors trade less often and, on the average, get better returns than those who invest on their own. Planners can filter out the financial “noise” that so often clouds financial judgment.

Planners understand that “hot” stocks become lukewarm pretty quickly.

Financial publications frequently have lists of hot financial ideas and stocks to watch. But those recommendations change all the time. Whose list should you believe? No one’s. I encourage my clients NOT to watch CNBC news, because it will just rile them up to do something that is a mere reaction to the news. Good planning is about having a road map that anticipates various events and gives you peace of mind. Turn off the TV, and enjoy your life!

Planners allay fear.

Some clients are just too fearful to invest in the stock market at all, and they have kept their money in safe investments for years. In the long run, risk and return are related. You know the saying: Nothing ventured, nothing gained. But you need to understand that you can take on risk intelligently. We are talking about investing your money, not gambling with it. A good financial planner should be able to explain risk and return to you, and to craft a strategy that is right for you. Something you will stay with in good times and bad.

Planners save time.

It takes time to develop a personalized financial program, monitor your investments, reduce risk and keep track of it all. Perhaps more time than your busy schedule may allow. Your Financial Planner offers a professional approach to your customized financial program that will not demand a lot of work on your part, and a level of knowledge and expertise that may be difficult for you to achieve on your own.

Planners know about taxes.

Like the weather, everyone complains about taxes. Planners can help you structure your investments to take advantage of legitimate tax-saving moves.

Where to find a planner?

Does everyone need a financial planner? No, certainly not. But if you have resources — savings and investments — you have choices to make. You may not have the time, inclination or even desire to do the hard work to come up with the best answer.

You can find a professional fee-only financial planner at The Garrett Planning Network (GPN) or the National Association of Personal Financial Advisors (NAPFA). If you have determined that what you are truly a Do-It-Yourselfer, or you only need a financial checkup or a second opinion, your search should probably start with GPN. If you want to delegate the work, look for a planner at NAPFA’s web site. Most NAPFA members require that you have a minimum amount of investable assets for them to manage. GPN members have no such minimum.

Disclosure: I am a member of both organizations.