As a CPA, you’re highly attuned to the value you add to your clients, and often, you can point to a figure and say, ‘This is how much I’ve saved you this year in taxes.’ A financial advisor’s value add can seem quite nebulous in comparison, as there isn’t usually a direct way to compare your own returns to those an advisor provides. However, studies conducted by major financial institutions reveal not just how advisors help you generate wealth faster but by how much on average.
Many investors have the mistaken idea that financial advisors help choose the hottest stocks or have some secret, complicated investing strategies that the average person can’t comprehend (let alone implement) on their own. While certain aspects of long-term financial planning can get quite technical, the most significant value add a financial advisor can offer is actually quite simple.
How Do Average Investors Perform?
First, let’s discuss your average investor’s returns compared to the market before we discuss how a financial advisor can help.
Dalbar’s Quantitative Analysis of Investor Behavior 2022 Study captured annual market returns between 1992 and 2021 compared to the average fund investor:
Stock Market: 10.65%
Equity Fund Investor: 7.13%
Difference: 3.52%
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Bond Market: 5.29%
Bond Fund Investor: 0.34%
Difference: 4.95%
The S&P 500 saw 9.91% annual returns in the same period. Had investors simply purchased an index fund that tracks the S&P 500, they probably would have gotten closer to at least keeping up with the overall stock market performance. Apparently, most didn’t.
Clearly, your average investor is leaving plenty of gains on the table – gains that could be generating their own compound gains, significantly improving one’s portfolio’s value over the decades.
So why aren’t American investors even getting close to market performance, and how can a financial professional help?
Behavior Coaching
Americans are their own worst enemies when it comes to investing. When we become excited or fearful, our emotions override the logical parts of our brain, and we tell ourselves, ‘Time to Buy’! (that’s FOMO kicking in – the Fear of Missing Out). Alternatively, we may see a scary-looking stock chart and go, ‘Time to Sell!!’ (that’s just regular old fear).
Warren Buffett, arguably the world’s greatest investor, says we should be doing the EXACT opposite: ‘be fearful when others are greedy and .. be greedy only when others are fearful.”
So when you reach for the phone to tell your advisor to dump all your savings into ‘XYZ hot stock pick’ or to cash out your assets because you’re down 20%, your advisor will be there with a reassuring voice: ‘For the sake of your long-term financial success, don’t do that!’
Instead, an advisor will likely tell you what they told you last month – put in the same amount as you did last month. By purchasing your investments regardless of where the markets are, you’re actually insulating your investments from price swings, thus reducing the chances of buying high and selling low.
But how exactly can we quantify that sort of advice? As a CPA, you believe in numbers, not soothing words. Fortunately, the good folks at Vanguard did the legwork for us – they say you can expect a 2% average additional annual return to your portfolio simply by not succumbing to knee-jerk reactions and instead heeding your advisor’s advice.
That additional 2% gets you to at least the S&P 500’s annual 20-year return rate, assuming you’re only getting behavior coaching from your advisor and nothing else. But a trusted advisor is much more than someone who advises on when to buy and sell, right?
What about spending your hard-earned savings? An advisor also plays a decisive role in that part as well.
Retirement Withdrawal Strategies
Now, we get to the more technical part. Sometimes, investors are great at building up a nest egg but aren’t sure how much or even how to withdraw from it in retirement. Especially confusing is the amount of investment accounts and income streams an American heading into their retirement years may have – potentially multiple 401(K)s and IRAs, maybe a pension, brokerage accounts, Social Security, annuities, and alternative investments such as real estate income – you name it, they all influence your tax status, and therefore your withdrawal strategy.
Here, advisors can also add significant value. By crafting a withdrawal strategy based on your income requirements and streams and the tax status of your assets and accounts, Vanguard research reveals that a retirement planning professional can add 1.2% in net returns to an investor’s portfolio, all while reducing the common risks associated with retirement, namely running out of money early.
But how did all of those assets end up in their respective accounts in the first place? Because that makes a difference as well!
Asset Locations
So, you want to buy some ETFs and some bonds. You have an IRA, a Roth IRA, a 401(K), and a brokerage account. Where do you want those assets to be located? Well, let’s look at the tax status of each:
Brokerage account: Taxable – Here, you can hold assets that incur capital gains; if you hold onto a stock or ETF for over a year, you’ll receive the lower long-term capital gains rate upon liquidation.
IRA / 401(K): Tax-deferred – Any income from your IRA or 401(K) will be taxed as ordinary income. So, that stock or ETF that would typically incur a lower capital gains tax rate will now be taxed as ordinary income. There are also Required Minimum Distributions to consider.
Roth IRA / 401(K): Tax-Free: Congratulations, tax-free distributions, and no RMDs if you are the original owner! Perhaps the assets that incur the most taxes can go here.
By placing the right kinds of assets in the correct investment account, an informed investor can yield an additional 0.6% in net returns. Your asset location will eventually go hand in hand with your withdrawal strategy, so it’s essential to determine your asset location strategy early so that everything is in the right place by the time you get to your withdrawal stage.
Rebalancing and Keeping Costs Low
Keeping your assets balanced could be pretty simple if you only have one investment account with a few index funds. You may not even have to sell any funds to rebalance – you can just reallocate more funds from your salary to purchase more of the funds that are underrepresented in your portfolio.
Now imagine trying to keep your various accounts aligned with each other. Do you have the time necessary for such a complicated endeavor? Fortunately, it’s an advisor’s job to figure it out for you. Along the way, they’ll ensure you’re not overpaying on your investments and find cheaper assets with the same goals and risk profile to replace any overpriced ones.
These two together, Vanguard says, can net you an additional 0.44% to your portfolio.
Putting It All Together
If we combine all those values, we’ll get 4.24%. The average American equity fund investor averaged 7.13% over nearly thirty years, while the stock market reeled in 10.65%. However, with the expertise of a financial professional, an investor could theoretically go from 7.13% to 11.37%, and officially beat the market – not an easy task.
Not by picking the latest stock pick or timing the market. Not by choosing exotic alternative investments that are as risky as they are potentially profitable. But through a disciplined system of dollar-cost averaging, rebalancing, keeping costs low, and utilizing the tax status of your investments and your accounts in a way that benefits you more than it does Uncle Sam.
Just a reminder, though – the numbers we discuss in this article are not set in stone, and your experience may differ. Who knows, they could be even better! But they also could be worse. Investing is inherently risky, and past performance is NO GUARANTEE of future returns.
That’s why we educate investors on fixed-income financial products that can potentially be insulated from the whims of the markets – so if all else fails, you know that you’ll still have a guaranteed income stream for life.
If you’d like to go over your retirement plan and analyze its risks, costs, and tax implications, an expert who cares is always available to sit down with you. Retirement is too important for a DIY approach – click the button below!
