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Testing an Advisor with Part of Your Portfolio

A reader writes in, asking:

“What do you think about testing an advisor for a few years by giving him just a piece of the overall portfolio before turning everything over?”

I think the answer depends on what type of advisor you’re considering. But first, let’s get something important (and perhaps obvious) out of the way: Intentionally withholding information from your advisor is generally unhelpful if your goal is to get the best advice possible. As a result, anybody giving you financial advice should at least know about all of your holdings.

If we’re talking about a professional who only gives as-needed advice rather than actually managing the portfolio (e.g., an hourly financial planner), you’ll be the one in control of the portfolio the entire time. There’s no real downside to showing them everything — if you don’t like the advice you get you can always choose not to implement it.

If we’re talking about an investment manager, and the idea is to give them a portion of the portfolio to test their performance over a given period, I have to say that such an approach doesn’t make sense to me. Before giving the advisor so much as a dollar, you should have both a good understanding of their investment philosophy and a high degree of confidence in that investment philosophy. It needs to be the sort of relationship where you continue to value their services even during periods of poor performance, because there will be such periods. That is, you should choose an investment manager based on the fact that they practice an investment philosophy you believe in, not based on their performance over a particular short period.

On the other hand, I think there are some cases in which a small-scale test for an investment manager can make sense. For example, if we’re talking about an online-only investment manager (e.g., Betterment or Wealthfront), and your concern is something mundane for which you can get a clear yes/no answer right away (e.g., whether you will like their website, interface, etc)., then it can be perfectly reasonable to move a very small amount of money over to them to see what you think before transferring the whole portfolio.

If we’re talking about a commission-paid advisor, it usually makes sense to stay away completely rather than giving them even a piece of your portfolio. A commission-based pay structure creates significant conflicts of interest between the client and the advisor, which typically results in subpar advice, such as recommendations of undesirably expensive investments.

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