The death of advisor alpha

Asset managers talk about advisor alpha. But does this apply to true financial advisors whose mandate is to ensure fulfillment of goals, ensuring desired outcomes in life and financial freedom? Should not financial advisors seek advisor alpha for their clients?

Let us see…

Striving for Advisor Alpha – Any good advisor would anyway be striving for that. Any client-centric, Fiduciary advisor will advice & allocate resources across product categories, as per the client’s specific situation. Hence, their allocation is always across multiple assets, across asset managers in almost every client’s case. One of the considerations while choosing the asset manager is the performance they have delivered over time.

It is that asset manager who has to deliver. But that is becoming increasingly difficult.

Generating extra returns becoming difficult – Asset managers are investing in the same space that everyone else is investing. They had better access to information, analysis & research capabilities and were hence able to use these to deliver better returns.

Information availability is much better now, for anyone who cares to look up. Research & analysis is also available on tap for free or at low costs. That’s because more analysts are following more businesses now.

Also, Total Return Index ( TRI ) has become the index to track now. TRI captures dividends & other payouts that accrue to one who holds stocks and is a truer indicator against which one should benchmark the performance. Beating TRI especially after the fee charged would hence become difficult. Many Index funds & ETFs, which are passive funds tracking multiple underlying indices,  are becoming available. Smartbeta funds also have become available now. Hence, whichever segment of the market or themes one may want to invest, a passive fund would be there. Costs involved in passive funds are very low which is an inherent advantage. The other advantage is avoiding fund manager risk.

Good asset managers use multiple methods to beat this. Some of them are winning even today. But the consistency of that performance will increasingly be tested. In simple terms, passive funds will compete for custom & will see increasing adoption. The advisor simply needs to pick passive funds, as may be appropriate for a client & their situation.

Why advisor alpha is irrelevant for an advised client – A conflict-free & client-centric advisor would understand the client’s life situation, their goals, their risk profile, their various money needs and consequently the appropriate asset allocation.

After this, they will choose the products & schemes to invest in, which the advisor would have vetted.  A good advisor will choose products that meet all parameters, including good returns. They will also ensure good asset & asset manager diversification too.

Inspite of all such due diligence, the returns can be poor in some asset class as a consequence of externalities like poor stock market performance in certain years, which is bound to reflect in any product whose underlying investment is equity.

This is uncontrollable – externalities generally are.  No one can control it. So there is no point fretting about it. That is precisely where diversification helps. That is also the reason why advisors focus on what can be controlled.

Advisor alpha in a new light – The advisor brings in a tremendous amount of value to the client – but not in terms of just higher returns than what is otherwise possible. That may happen but is not certain.

What is certain is that aligned advice will be in line with one’s life goals & situation. A true fiduciary advisor would have planned in a such a way that one’s goals will be met, there is adequate liquidity when needed, contingencies are budgeted for, risks are diversified and mitigated to the extent possible, tax optimised & ensures a streamlined, manageable portfolio. 

The advisor focuses on what can be controlled. That is why the advisor would always insist on keeping the expenses in check – which is very much within the client’s control. The other controllable factor is disciplined investment of monthly surpluses, maturities, bonuses etc.  They would review the clients financial plan & their portfolio from time to time and suggest changes as may be necessary.

This ensures that goals will be met. Is that not the most important outcome for a client, instead of an illusory & evanescent return number?  This is the true value that an advisor brings into the relationship. Call it Advisor Alpha if you want to – the new Advisor Alpha!

Advisor Alpha is dead, or is on the death throes. Long live Advisor alpha ! ( in the new avatar )