I am a huge fan of index fund investing. Boglehead’s Guide to investing won me over originally. A Random Walk Down Wall Street solidified any remaining questions I had. The personal finance blogosphere and bogleheads forums also help when doubt creeps in.
All of this index fund investing started with a man named John Bogle and his company. You may have heard of it… It’s only the biggest mutual fund company in existence now. Yup, you guessed it. Vanguard. Despite this “you can do it yourself; you don’t need actively managed funds” advice, Vanguard is now recommending financial advisors… Why does Vanguard recommend financial advisors? More importantly, what’s the argument for using them and are they worth it?
Let’s take a look.
Where it all started
I’ll give you some good advice. Unlike the personal advisor pricing, this is free: Beer with pretzels is delicious. Oh, and beer cheese is much better than mustard.
Remember, this is a company built on the premise that professional hedge fund managers who spend their lives honing their craft are no better at gaining you a winning profit than flipping a coin. They will tell you (rightly) that you can do better by just following the market. In fact, the boglehead’s way is to simply purchase diversified low-cost index funds with good asset allocation. Set it and forget it.
So, why are they pushing for advisors? Let’s dig in.
The Vanguard Argument
If you want to see the original research paper, then you can find it here. If you want the abbreviated, polished, and easier to read version on Vanguard’s website, that you can find here.
On the website page referenced above, Vanguard points to three key features that warrant the value (i.e. the cost) of a financial advisor. In turn, they are the following:
- “Serving as your investment coach.” The essence here being that a good advisor will prevent you from making stupid financial decisions.
- “Minimizing your taxes.” They advocate two ways that an advisor can save you on taxes. First, they can determine tax-efficient ways to invest. Second, they can make sure you withdraw your money in a tax-efficient manner.
- “Building your portfolio with low-cost funds.” I don’t think I need to explain this one, but the idea is that good research shows that passively managed index funds outperform their actively managed and higher-cost counterparts.
Okay, but how much does it cost?
If you want the complete argument on why low-cost index fund investing is best, this book fits the bill for most DIY investors.
The financial advisor service through vanguard costs 0.3%. To be fair, this is substantially less than the industry standard, which is around 1%. That said, how much will 0.3% cost you over a typical 30 year career and 30 year retirement? Let’s do the math.
Here are the assumptions. $50,000 invested each year for 30 years earning 7% on average. Then taking out 4% per year for thirty years thereafter while earning 6%.
During your thirty year accrual phase, you could expect to earn $4,723,039 without an advisor (earning 7%). With the advisor you would earn 6.7% which turns out to be $4,475,622. So, during your thirty year career your advisor has now cost you a total of $247,417 over thirty years or $8,247 per year on average (though really its 0 dollars the first year and around $14,000 your last year).
Of course, as your nest egg continues to grow this will only cost you more each year. Assuming the number you end up with (4,723,039) grows at 5% while you take out $200,000 each year to live on, you could expect to have $7.125 million. With the 0.3% investor fee, you can expect to have $6.110 million. Or a difference of a little more than $1 million.
So, the question becomes the following. Do you think that the three reasons Vanguard gives for having a financial advisor is worth $1,250,000 over sixty years? Another way to ask this is the following: Will you make $1.25 million in mistakes over the next sixty years with a set it and forget it method?
Maybe. Let’s talk about it.
Three Counter-Arguments
Vanguard has laid out why they think financial advisors (or investment coaches) are helpful. We have also discussed how much their service may cost you over a typical 30 year career and 30 year retirement ($1,250,000 for the above assumptions).
To be fair to Vanguard, I must mention that with the same assumptions above, if you use an advisor with the typical industree standard (1% advisor fee), this would cost you $770,130 in the accrual phase and $5,500,000 during your retirement phase. All together, that’s roughly $6.25 million dollars. There is no way any one who spends even a little bit of time can justify this cost.
That said, Vanguard’s cost is much lower. Can they justify their cost? Here are the arguments and counter-arguments to each of Vanguard’s points.
Do we really need An Investment Coach?
I know a good financial advisor for your money…you. Click on the DIY Personal Finance Page to find out more.
Vanguard’s first point is that you need someone to help you stick with the plan. After all, there is good research to show that if you don’t stick to the plan, there are few decisions that will be more catastrophic to your financial success. It might battle with divorce for the number 1 spot.
A Random Walk Down Wall Street gives a great example of this where if someone were to invest $1 (a single dollar) into the market in 1900 it would have grown to $290 by 2013. However, if that same person missed the five best days in the market each year (but kept their money in for the other 360 days each year), that $1 would be worth less than a penny.
Let that sink in. Timing the market and not “Setting and forgetting” into a good plan can be devastating. It’s incredibly important to ride the wave and stick to the plan. Otherwise, you become your own worst enemy.
So, if you know yourself and you are unable to stick to a plan without a financial advisor, I have to agree with Vanguard. It’s worth every penny for that person.
However, if you have the mental fortitude to pick a solid plan, set it and forget it, and only rebalance once each year (regardless of what the market is doing)… the advisor costs are probably not worth it, in my opinion.
Minimizing taxes
Unfortunately, many of the taxes you will incur during retirement will have to do with how you set up your portfolio. How much standard versus Roth contributions do you have? Where are your bonds located (tax efficient retirement accounts or taxable accounts)? So on and so forth.
With that in mind, it is good to have a sound plan put in place prior to getting to retirement. If you don’t feel the need to read up a little bit on this or to take a course like White Coat Investors “Fire your Financial Planner” course, then a financial advisor from Vanguard is again worth every penny.
However, there are free DIY-investing resources out there to help you set and forget it in a tax-efficient manner. Here are some examples from some great websites I follow:
- POF over at Physician on Fire gives a great example at the end of this post on how to minimize tax drag in retirement.
- POF also talks about how to avoid taxes completely in retirement, too.
- You can visit a post from White Coat Investor on tax-efficient investments in taxabale accounts.
- Wall Street Physician has a word on to say on picking the right tax-efficient allocation.
The point I am trying to make is that with just a little bit of work, you can set yourself up for success. Then you, too, can use my response when someone asks me “Hey, have you seen the market today?”
“Nope, I never check the market. How’s it doing?”
Building your portfolio with low-cost funds
If you are reading this website, I probably don’t need to talk you into using low-cost index funds. Ironically, neither should Vanguard since they are the King of low-cost index funds. They invented them.
You can see why I find it strange that Vanguard is touting their financial advisor service with this as a supposed benefit. If you know about Vanguard at all, you likely don’t need an advisor to tell you to use their index funds.
If you don’t know a lot about index funds and want to learn more you can read the books I referenced at the beginning of this post or you can read this from the Boglehead’s Wiki. It is chalk full of references.
Oh, and if you thought that the investor fee from Vanguard costs a lot…Imagine a 1% expense ratio and management free for high-cost funds will run you over 60 years. If you are curious, you can visit the example above for the advisor with a similar 1% fee. Hint: It’s a boat load of money.
Take Home
The take home point is this. The vanguard financial advisor might be for you if you meet the following:
- If you are unable to control your urges when market swings happen (or you cannot ignore looking at the market in general)
- If you don’t like doing a minimal amount of homework to determine the right asset allocation and location of funds to avoid taxes in the future
- If you aren’t yet convinced that low-cost investing is a good thing.
However, if you can manage your wits, avoid making changes with market flux, and can do a little bit of reading…then I see no reason why you should use this service for the cost of $1.25 million over your career and retirement. Stick to your guns and become a DIY investor.
Your retirement accounts (and retirement in general) will be happier for it.
I’d love to hear your thoughts on this. Do you completely disagree? Are you on the same side? Leave your thoughts below.
TPP
I have a question what if the person is 60 years old, good health, has plans to invest $5 million, but only $1 million currently invested, wants to invest slowly 600K year maybe into no load funds. Is that too slow,? Concern about a downturn in market at this age, and what about savings in fees by not using an advisor, any mathematical calculations?
Lots of questions to unpack here.
1) Are you telling me that someone is sitting on $6million in cash at the age of 60? Where did this come from? Was it a windfall, or is this just a theoretical question?
2) What you are really asking is whether dollar cost averaging (DCA) a large amount of money is better than putting the lump sum into the market? This has been discussed before many times. The winner seems to be putting the lump sum in rather than waiting (And letting your cash devalue via inflation). If your personal risk tolerance won’t allow this, you should probably DCA over just one year (as opposed to say 5 years). Here are some articles on that:
Business Insider
This article by seeking alpha compares lump sum versus various time frames for DCA
3) There is always a concern about a downturning market, particularly the closer you are (or during) retirement. This is why we should have a very diversified portfolio (stocks, bonds, real estate, etc) to allow for market volatility. Also, you should not be heavily invested in equity at this point.
4) On 6 million dollars…0.3% of that (if using the financial advisor services from vangaurd, like I talk about in this post) will cost you $18,000 per year. Over a 30 year retirement (not counting the reinvested interest you are losing), that’ll cost you $540,000. So, unless you feel that the advisor service will save you this much money in taxes or fees… its not worth it unless you need someone to prevent you from pulling money out of the market when it is low. If you need someone to coach you through the tough times, the advisor service would be worth every single penny.
Let me know if the above did or didn’t answer your questions.
TPP
I’m 61 living off about 850k, withdrawing 4k per month. No debt. Probably of success of outliving my money at about 73%.
Currently with financial advisors who charge about .008 per year. Did my homework as best I can, backtested and monte carlo-ed numerous scenarios and concluded moving my money to Vanguard, with me managing it alone puts about $670 net net more cash in my pocket every month.
Talked to an Advisor at Vanguard and I’m unexpectedly seriously considering hiring their advisors at .003 with takes about $200 net off my $670.
My concern is that because most of my income comes from my portfolio, the game has changed and it would be very prudent for me to pay for that second set of eyes and management – especially re tax efficiencies and rebalancing. Would appreciate your thoughts and thank you for this blog.
Taking 5.6% out of your portfolio each year may be a tough spot. Giving an extra 0.3% to a vangaurd advisor means you are either taking less than 4k per month or taking out 5.9% annually.
I think that tax efficiencies are important, but honestly almost all of your income is at the 12% bracket for pre tax money that is taken out and the rest should either be post tax Roth money or at the long term capital gains rate of zero if you can keep your taxes below 38k.
And that’s for filing single. If you are married it’s even better. Shoot me an email and maybe we can talk specifics. Email is [email protected]
Hi it is Neena, Yes I worked 85 hours a week, very very efficient pace, only 20 day holiday in this time, for 25 years and spent very little. I was pressurred by B of A advisor to family to hook up with their Merrill Branch and those incompetents charged 1.5% to buy and hold munis and so other garbage I lost a little money in, in total costs of fees alone over exactly 10 years, $300K unbelievable but I was working. Yes it’s all my money, now I am Schwab, mostly fixed income, muni and CD, but have cash of at least $500K now, and want to sell their Thomas Partners $600K ( expense .75%) not such a great investment but not bad return, and I have $475 K in a 2% Kauffmann fund tried to capture losses last year, Schwab messed up and I will sell this year, so I will pare TPI and sell all Kauffman because my accountant has trouble with partial sales. So I invested $300K so far this year in stocks and no load funds, maybe I will invest 500 K in them or should I do 1 million in next months ? Thank you.
Hey Neena,
I am not entirely sure what you are asking. Are you nearing retirement (or in it)? If so, you should continue to place money into more secure asset allocations (total bond index fund and TIPS in retirement accounts and muni’s if in taxable account). How much you should invest depends on your situation. If you are drawing down, all of it (Save for some cash in the first couple of years in retirement) is likely in the market in someway. If not, then you are losing 2% to inflation by it sitting outside.
If you are not yet in retirement, then you should still put the vast majority of it in the market while saving some for an emergency fund in the case of job loss or to cover the six months before a disability insurance product might kick in.
TPP
Thank you for the great information. I am 60 yrs old and am planning on retiring in 4 years. The IRA portion of my retirement savings (approx 600K) has been with Ameriprise for the last 10 yrs. I have been paying a ridiculous fee of 1.5% of assets at Ameriprise and my return has been low (4.5%)
Time to wake up!
I am in the process of having those assets transferred to Vanguard.
I have been considering using Vanguards Advisor Services and it seems really cheap compared to what I have been paying. I already know what my asset allocation will be at Vanguard, and I do not really need coaching to stay the course.
My areas of concern are withdrawal strategies and tax strategies. I do not feel that I have the knowledge to be confident that I have things set up correctly. I am just wondering if it makes sense in my situation to pay the 0.3% for advisory services, or if the things that I am concerned about really aren’t that difficult, and can be done on my own.
I will say that the distribution phase (retirement) is very different than the accumulation phase. You just have to make sure you are taking advantage of the tax breaks that exist. It probably doesn’t hurt to get an honest opinion from someone with knowledge of this stuff, but often times you can learn enough to start doing it yourself.