Questions every investor should ask before trusting someone to actively manage their portfolio.
FREQUENTLY ASKED QUESTIONS
How can I tell whether a Registered Investment Advisor actually manages investments in-house?
Short Answer
Ask direct questions about who is making the investment decisions. Not every Registered Investment Advisor (RIA) actively manages client portfolios in-house, and understanding who is responsible for your investments can help you make a more informed decision.
Expanded Answer
Many investors assume that the professional they’re meeting with is also the person making day-to-day investment decisions. In reality, some firms outsource portfolio management to third-party sub-advisors while continuing to serve as the primary point of contact for clients.
There’s nothing wrong with asking how investment decisions are made, who manages client assets, and whether outside firms are involved. Understanding the structure of an advisory firm can help you evaluate whether its investment philosophy, communication style, and services align with your expectations before entering into a long-term relationship.
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What questions should I ask before hiring a Registered Investment Advisor?
Short Answer
Investors should ask about investment management experience, fiduciary responsibilities, portfolio management philosophy, fee structure, and whether outside managers are used.
Expanded Answer
Choosing an investment advisor is one of the most important financial decisions you’ll make, so it’s worth asking more than just how investments have performed. Understanding who manages your portfolio, how decisions are made, and how the firm is compensated can provide valuable insight into how the advisory relationship will work over time.
Investors should also review the firm’s Form ADV, ask whether portfolio management is handled internally or outsourced, and learn about the advisor’s investment philosophy. These conversations can help set expectations and allow you to compare firms based on transparency, experience, and the services they provide—not simply the title on a business card.
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Continue reading below to learn why asking the right questions—and understanding how an advisory firm actually manages client assets—can help you make a more informed decision when choosing an investment professional.
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In recent years, there has been a significant increase in the number of financial advisors transitioning to Registered Investment Advisor (RIA) status. This change might seem like a positive shift towards fiduciary responsibility, but at Davidson Capital Management, we have observed some concerning trends. Many advisors are using the RIA title to gain credibility, yet they continue practices that prioritize selling financial products over genuine fiduciary duty. How do they do this? The article below sheds light on these practices, shares important questions to ask an RIA you may be considering working with, and provides guidance to help you avoid getting hoodwinked.
The Rise of More RIAs: Understanding the Trend
Over the past decade, the financial advisory landscape has shifted dramatically. More advisors are opting to open their own RIA firms, leveraging the fiduciary label to attract clients. A fiduciary advisor is legally obligated to act in the best interests of their clients – a standard that non-fiduciary advisors are not required to meet. This distinction has become more critical as investors become savvier and more demanding of transparency and accountability from their financial advisors.
However, this trend has a darker side that has us concerned, and you know we don’t pull punches when it comes to sharing the information we believe you need to know. You see, the financial services industry is crowded and competitive, and the increased awareness among investors about the benefits of fiduciary advice has put pressure on non-fiduciary advisors. Consequently, many have transitioned to RIAs, not out of a genuine commitment to fiduciary principles, but rather as a strategic move to retain and attract clients. This “if you can’t beat them, join them” mentality can mislead investors, who may assume that all RIAs operate with the same level of integrity and expertise. (And we’re here to tell you – they don’t!)
SEE ALSO: Why Thinking Like a ‘Trader’ Rather Than an Investor Can Decrease Your Long-Term Wealth
The Problem with Inexperienced RIAs
One of the most troubling aspects of this trend is the number of former financial advisors who, despite lacking substantial portfolio management experience, present themselves as seasoned RIAs. This misrepresentation is dangerous for investors who rely on their advisor’s expertise to actively manage their assets effectively. Investors need to be cautious and perform due diligence to be sure that their advisor has the necessary experience and track record in managing investments.
Hidden Costs of Sub-Advisory Models
Another prevalent issue is the outsourcing of asset management to sub-advisory firms. Many new RIAs, aware of their limitations in active portfolio management, opt to delegate this responsibility and simply continue to focus on selling financial products. While this might seem like a practical solution, it often results in two problems for clients: sales strategies that don’t take into account a client’s best interests and higher overall management fees. Why the higher fees, you ask? Well, sub-advisory services come at a cost, which is typically passed on to the client, increasing the overall management fees. High fees can erode the returns on your investments, making it harder to achieve your financial goals.
Important Questions to Ask and RIA to Safeguard Your Finances
Below are some important questions to ask an RIA you may be considering working with, or to ask the RIA you may currently be working with:
- Do you actively manage client assets in-house?
- Do you use any sub-advisors to manage client assets?
- If the RIA uses a sub-advisor: What is the sub-advisor’s annual management fees?
- If the RIA manages client assets in-house: Please describe your investment management philosophy.
- Can you provide an investment performance track record based on your discretionary active asset management decisions?
- Do you sell investment products? If yes, please describe.
- Do you sell insurance products? If yes, please describe. (If the advisor sells annuities, you need to run away as fast as you can!)
SEE ALSO: The Power of Continuous Learning: Staying Informed in a Dynamic Market
Reading the Fine Print: The ADV Part II
All advisors holding themselves out as an RIA must provide a prospective client with their firm’s ADV Part II. The ADV Part II is a crucial document that serves as the roadmap for how the RIA operates and interacts with their clients. It contains detailed information about the firm’s business practices, management fees, conflicts of interest, and the background of the management team. This document is mandated by the Securities and Exchange Commission (SEC) to ensure transparency and to help investors make informed decisions.
Reading and thoroughly understanding the ADV Part II before engaging with any RIA is essential. This document will provide you insight into the advisor’s fiduciary duty, the types of services they provide, their fee structure if the RIA uses sub-advisors for asset management, and any potential conflicts of interest that might affect their advice. It will also include information about the advisor’s investment strategies and the risks associated with those strategies. By reviewing the ADV Part II, you can verify whether the advisor truly acts in a fiduciary capacity and aligns with your financial goals and values. Always take the time to read and understand this document fully before proceeding with any advisory relationship.
The Importance of Direct Relationships with Portfolio Managers
At Davidson Capital Management, we have been serving our clients as fiduciary RIAs who make every investment management decision in-house for more than three decades, and we’ve seen first-hand how a direct and personal relationship with your asset management team is vital. It’s the best way to know that your unique financial goals, risk tolerance, risk capacity, and objectives are fully understood and integrated into your investment strategy. Sub-advisory models create a disconnect between the client and the actual managers of their assets, leading to potential misalignments in investment strategies and objectives along with higher annual management fees.
We strongly believe that investors should seek RIAs who manage assets in-house and who are transparent about their investment management philosophy and performance track record. This direct relationship not only fosters better communication but also builds trust so that you can feel confident that your advisor is truly working in your best interest.
Conclusion: Protecting Your Investments
The trend of financial advisors becoming RIAs is not inherently negative, but it does require investors to be more vigilant and dig below the surface. By asking the right questions and understanding the implications of sub-advisory models and the advisor’s experience, you can make more informed decisions. Always review the firm’s ADV Part II document thoroughly before engaging with any RIA, as it provides crucial insights into their practices and investment philosophy.
At Davidson Capital Management, we are committed to maintaining the highest fiduciary standards and providing transparent, experienced active asset management. If you have any concerns or questions about your current advisor or are considering working with a new RIA, do not hesitate to reach out to us for guidance and support, and to learn more about the investment management services we have been providing our clients since 1989.
