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BROKERS vs. ADVISORS
Published: 7/1/05

A recent article in the Wall Street Journal regarding fees and financial advice compels me to write about the different business models used in the financial services industry. Let’s first list the two major categories and how they make money then finish with a little comparison so you can form your own conclusion.

The traditional stock broker is considered by a recent SEC ruling as a sales person that can give limited financial advice. They are true middlemen selling investments vehicles and are not financial advisors. Although they are required to “know thy customer” and sell appropriate instruments, they are held as brokers of financial products not as fiduciaries meaning they do not have to act in the clients’ best interest. Similar to say a car salesperson, albeit brokers may not appreciate the comparison. In essence they sell products and are only required to know and understand those products.

Financial advisors or registered investment advisors are held to a standard of a fiduciary so they must under law always act in the clients’ best interest. There are expected to be knowledgeable in financial matters and hold at least one license (e.g. series 7 or 65) depending on their business. They must be registered with the state they do business in or with the SEC if their assets under management exceeds $25,000,000.

Accountants and insurance agents that sell financial products must fall under one of the two categories above depending on their business. Many, though, are the least qualified to offer you financial advice just as your broker or financial advisor is not the best person to do your taxes. Most do this to augment their primary business and they receive commissions for selling funds (often for your IRA rollover).

Now how does each representative get paid? That probably is the most important item an investor should know. Some work off commissions as the traditional stock broker does. These arrangements can be complicated as the firms offer incentives to move certain products. So certain funds or wrap accounts will bring greater gains to the individual brokers than others. Remember, no matter what anyone tells you, workers respond to financial incentives and will sell products that pay them the highest fee. Advisors, on the other hand, can work off commissions or loads from mutual funds or they can work off of fees (for example 1% of assets under management). Or they may get paid from a combination of the above. This sometimes convolutes the system even more as many of the incentive programs are not transparent and therefore the client never knows.

You ought to know exactly how your rep, broker, advisor gets paid so you understand what drives his decision in term of products. If certain funds pay more than others, which one do you think she will promote? If a certain program pays the stock broker more, where do you think his loyalty lies? Everyone will tell you they have your best interest at heart and some may actually believe it. But even the most well-intentioned broker can hardly ignore the economic realties of sales.

There are good honest people in both categories, as well as some very bad people in both groupings. Personally, I believe the straight fee business is cleaner, more upfront, and easier for the client to understand. That is why I use it for Gallagher Investment Services, Inc. Many clients work with more than one financial professional so they pay under different systems. This is not inherently bad. The important thing is to be aware of the model, know exactly how much you are paying and be comfortable that you getting value for your money.

As a final though, I do not accept any fees, loads, commission, or any incentive to sell any product from any company (including Fidelity). The only money I accept is paid directly from clients to me.

Written by: Marty Gallagher

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