Financial Advisor Red Flags

I have done a lot of portfolio reviews over the past five years. I love doing these reviews, mostly because the client usually learns a lot, and also because get to see how financial advisors are investing their clients’ money. When I first started these reviews, I was optimistic: I expected to see portfolios that were set up to help people win financially.

The truth is, I have become more jaded with each passing year. Each time I see a portfolio with inappropriate investments, performance that is well below the market, and misrepresented information, my faith in the wealth management industry fades a bit more.

I am passionate about this topic because a bad portfolio has significant implications for someone’s future, especially for people who don’t have a boatload of money. When I do a review for a wealthy client, a bad portfolio upsets me. But I’ve seen advisors take an irresponsible amount of risk in portfolios of people who don’t have a lot of money, and that's infuriating.

The nice thing about writing a blog and newsletter is that I don’t have to (overly) censor what I say. When I worked at the bank, anything I wrote went through a couple of people in Compliance and at least one lawyer in the Legal department. When I write articles for the newspaper, I need to be conscious of the implications of being too outspoken or critical. Lucky you: you get my unfiltered opinion.

Here are six things that are particularly maddening and that you should watch out for if you have an advisor who manages your money.

1. Performance is shown compared to a benchmark that makes the advisor’s performance look better than it is.

In the investment world, we use benchmarks to figure out whether an investment is generating good returns. A performance number on its own is not helpful - it has to be considered in the context of what the market is doing. Your advisor might love telling you, “Your investments grew by 10% over the last year!”, but if the benchmark was up 20%, this is actually a poor result.

(And don’t be tricked by the “Your portfolio was up $21,287 over the past year!”  This is even more meaningless without context.)

A benchmark must match how your portfolio is invested. If you have 20% in fixed income and 80% in stocks, the benchmark should have 20% in fixed income and 80% in stocks.  Be on the lookout for inappropriate benchmarks. In this instance, if the advisor is showing you a benchmark with 40% bonds and 60% stocks, then their performance is going to look great because bonds usually have lower returns than stocks.

If your advisor is showing performance against an “easy” benchmark, this is a huge red flag. It’s rare for an advisor to be so brazen, but I’ve seen it, especially with complex portfolios where it’s hard for a non-industry person to know what the right benchmark is.

2. Performance is shown before fees are deducted.

Performance should be shown after fees. Always. Without deducting fees, you don’t know what your actual returns are.

Industry regulators require advisors to provide after-fee, annualized returns in the yearly performance report. But outside of this, advisors are free to show returns before fees. If you are getting performance numbers in an email, Powerpoint presentation, or a quarterly review, look for the fine print that says, “Returns are before fees.” This is a red flag – in my opinion, advisors should never give you before-fee returns, unless they also provide returns after fees. If it doesn’t say, ask. Always insist on after-fee returns.

3. Investments are moved to a new account, which deletes the past performance.

This is a niche move that I don’t see too often but when I do, oh boy, does it tick me off.

The reason it matters is if your investments were moved to a new account, that past performance disappears. It does not transfer over to the new account. Not to jump to conclusions, but could this be because there was a big loser in the account and by closing it this poor performance was erased? I have seen this in action: in one case the advisor bought two investments that tanked (one was a crypto investment, and one was a niche fund), sold them, and transferred the money to a new account. Voila! No record of the crappy investments. Another big red flag.

There are some reasons to move investments to a new account, but they are few. Aggressively question your advisor if this has happened to you, and insist on seeing the performance on the closed account.

4. Fees are disclosed, but not in full.

It’s awesome when your advisor outlines your fees on a regular basis. They are required by the regulators to do it once a year in the Charges and Compensation Report (and when you first start working with the advisor) so if you’re getting it more often, bonus points for the advisor.

But wait –  you can see the amount they are charging you, but where are the fees on your mutual funds? Advisors rarely include the fees on the mutual funds a client owns (the MERs), which means your total fee is understated. Most people don't know how much they are paying for a mutual fund since the fee is embedded. Yes, you can usually find this yourself with a Google search (Chat GPT makes it even easier), but finding the right MER isn't always straight-forward, and then you need to calculate the weighted-average fee on your entire portfolio. (Bit of a pain, and something I do in a portfolio review.)

Up until now, advisors have not had to disclose mutual fund fees (except when you first buy the fund) but that’s changing in 2027. Whoo hoo! Still, be cautious: while the Charges and Compensation Report will show all fees, including MERS, any informal documents you get – an email, a Powerpoint presentation – might not follow regulatory standards and probably won’t show your total fees. If you aren’t sure, ask whether your fund fees are included.

5. Owning alternative assets.

Private equity funds, private debt funds and hedge funds are unnecessary investments that only add risk and complexity to a portfolio.

Because they are not regulated in the same way as mutual funds and ETFs, disclosure can be poor. The fund company will give you the information they want to show, and it could leave out important information like what kinds of assets are in the fund, what losses the fund has experienced from failed businesses or loans, and how much of the fund is sitting in cash waiting for a “good opportunity”.

Sometimes there are limitations on when you can take your money out. While there can be good reason for this (the fund manager needs some certainty that the capital will be there to make long-term investments), investors need to know that they might not be able to get their money out when they want to. Have a read through this article to see all of the downsides.

Your advisor might say you should have private equity for high returns and for being “uncorrelated to traditional asset classes”. Bunk. You don’t need an uncorrelated asset (which it might not be anyway), and returns are in no way, shape, or form guaranteed to be higher than the stock market. In fact, private equity funds launched after 2005 have done no better, on aggregate, than the stock market, and I've seen a few that have vastly underperformed.

6.  Convoluted, complex portfolios.

Accounts with too many holdings, funds that combine stocks and bonds (balanced funds), and investments that are hard to classify into the cash/fixed income/stocks buckets (gold, farm land, private equity, crypto) give me a headache. And a heartache. They cause me to say out loud (to no one but the cat), “What the *&!%.”

Convoluted accounts make it impossible for most people to understand what they are invested in, how much risk they are taking, and how to know whether their performance is holding up. Complexity confuses people and makes it hard to ask precise questions of your advisor. Hmm, perhaps that’s the objective?

If you are overwhelmed by your account statement, that’s a red flag. Simplicity is best, and while your advisor might make less money from commissions, your performance will be better.

I am not a financial advisor basher - they are important for many people. And of course, there are many good advisors out there. But in my opinion, they aren't under enough scrutiny, despite the regularly and compliance standards required by the firms they work for. Clients should arm themselves as best they can to ask pointed questions to get the best portfolio possible.

Photo by Milada Vigerova on Unsplash