As Bob Dylan wrote in his classic song: The Times They Are A-Changin’,
Come gather ’round people
Wherever you roam
And admit that the waters
Around you have grown
And accept it that soon
You’ll be drenched to the bone
If your time to you
Is worth savin’
Then you better start swimmin’
Or you’ll sink like a stone
For the times they are a-changin’.
Admittedly, Bob Dylan may not have been alluding to financial and investment theories when he wrote this song. Nevertheless, in the investment world, the times have been a-changin’ for a while; those who cling to old ways may not sink like a stone, but I believe they will hurt their investment returns in a variety of ways. (For related reading, see: Money and Minimalism: The New American Deam.)
How Investing Has Shifted
First, in what ways have things changed in the investment world? In my opinion, the biggest change of the past few decades has been the shift towards a lower cost, passively-managed investment style. This contrasts with an actively-managed investment style with typically higher fees. With the loss of focus on active investment, advisors have more time to focus on financial planning.
So, why has active management fallen out of favor? Evidence consistently shows passively-managed index funds outperform their actively-managed counterparts. Similarly, chasing returns, timing the market and other active strategies continue to lose popularity. The new perception is that these strategies are more akin to gambling than investing. Yet, this begs the question: for advisors that encourage a passive investment strategy, why exactly should anyone pay them?
Interestingly enough, Vanguard published a study that quantified how such advisors might bring value to the table. The Vanguard study found that the most important thing an advisor does is help keep clients focused. The media is loud and talking heads can be hard to ignore. And these pundits usually get even louder during extreme market crashes or bull runs, which is even more dangerous. (For related reading, see: 5 Investment Mistakes You May Be Making.)
An ‘Active’ Concept That’s in Style
After all, just one bad decision during a market crash or rally could be catastrophic to an individual’s finances. While it is easy to assume emotions will not influence investment decisions during a relatively steady time in the markets, a crash like the one that occurred in 2008-2009 can rattle almost anyone.
Furthermore, active investing and active planning are two very different things. Advisors can add value by helping people set and reach their goals. While this can take many forms, some of the more common strategies advisors discuss in the financial planning process include the following:
- Ensuring investments are tax-efficient.
- Helping plan to maximize Social Security benefits.
- Helping plan legacies, through wills and trusts.
- Investing to take advantage of tax-credits and deductions.
- Decisions on debt, including mortgages.
- Checking to make sure clients are properly insured (this holds true even if an advisor does not sell insurance).
In essence, there are probably better ways for you and your advisor to spend time than actively trying to beat the market. Again, most evidence proves that the vast majority of active managers underperform the market. So, if you are paying for active investment management only, those fees are most likely harming your investment returns. (For related reading, see: Logic: The Antidote to Emotional Investing.)
However, active planning can bring value to the table. So, I would encourage anyone not familiar with all of these changes to do some reading to understand the new school of thought. After all, as Bob Dylan wrote,
For he that gets hurt
Will be he who has stalled …
For the times, they are a-changin’.