Getting the Record Straight

By Jack Waymire

www.paladinregistry.com

How do you know how a financial advisor has performed for his or her clients? By asking for the advisor’s track record—and reading the fine print.

All investors ask prospective financial advisors what type of performance to expect from the advisor’s stewardship of their money. Advisors’ responses are sometimes true, sometimes exaggerated and sometimes dishonest. How can an investor figure out what’s true and what isn’t? By looking for the characteristics of track records you can trust—and the warnings for records you can’t.

The Sales Pitch

Representatives and advisors who cannot provide legitimate track records must still convince you they can produce competitive results. They will make sales claims describing the results they have produced for current clients. For example, they may claim they have produced 20 percent returns, using references to back up the claim. But sales claims, even those supported by references, are not legitimate track records. You need …

Disclosure & Documentation

All legitimate track records are based on disclosure and documentation. Disclosure is usually in the fine print, but it should describe the methodology used to produce the track record. Documentation is your record of what is communicated to you before you sign on with an advisor.

Composition of Track Records

The most reliable records are based on the performance of all of the advisor’s portfolios. Second best is a composite of portfolios that still contains a large number of accounts. Be leery of track records based on a limited number of portfolios, which may include only the best performing accounts.

GIPS Compliant

The formula an advisor uses to calculate his or her track record should be in compliance with Global Investment Performance Standards, an industry code established by the CFA Institute.

Third Party Auditors

Independent third parties with no relationship to the advisor or money manager are the best auditors. Beware of unaudited track records and auditors you’ve never heard of.

Investment Expenses

The most reliable track records should reflect all of the fees that would be deducted from your account: advisory fees, money management fees, custodial fees, marketing fees, administration fees and transaction expenses. Expenses can range from 1.5 percent to 3 percent and occasionally even more.

The Free Lunch

Watch out for track records that appear to be too good to be true or an advisor who claims he can produce high returns for low risk. High returns for low risk do not exist.

The Hot Product

Many sales representatives and advisors will show you the performance of hot products (specific mutual funds and hedge funds, for example) and represent the results as their track records. Unfortunately, it’s virtually impossible to know when they began recommending the funds to their clients. In my experience, they usually selected the funds after the performance occurred.

Bottom Line

Some investors feel awkward asking potential advisors for their track records. Don’t. It’s your money.

Curator