More than half – 52% – of American households have money invested in the stock market with 41% of Americans having access to employer-sponsored retirement plans, which typically are a mix of assets including stocks and bonds, according to a 2020 story from the think tank Pew Research Center. An investment adviser is a key piece of the puzzle for many Americans. But if you’re wondering exactly what an investment adviser is and what they do, we’re here to help.
What is an Investment Adviser?
The term investment adviser (IA) was first defined in the Investment Advisers Act of 1940, and the original definition is still upheld by the Securities and Exchange Commission (SEC): An investment adviser is any individual or firm that engages in the business of advising clients, either directly or through publications or writings, as to the value of securities or as to the advisability of investing in, purchasing, or selling securities, or who, for compensation and as part of a regular business, issues analyses or reports concerning securities.
Investment advisers are knowledgeable of most types of investments, including stocks, bonds, exchange traded funds, mutual funds, derivatives and other less common investment products. Investment advisers may offer other services outside of portfolio management and consultation. Many IAs also are certified financial planners, or may offer insurance products like annuities, but in their role as an investment adviser, they limit their services to the narrow scope of investment portfolio management and consultation.
A registered investment adviser, or RIA, is an investment adviser who has registered either at the state level with their state’s Securities Commission, or at the federal level with the United States Securities and Exchange Commission.
Investment Advisor Information By State
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- District of Columbia
- New Hampshire
- New Jersey
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- New York
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- South Dakota
- West Virginia
Why Become an Investment Adviser?
Academic research proves that individual investors truly benefit from the help of professional investment advisers. A study conducted by the Social Science Research Network found that individuals who actively managed their own portfolios underperformed the market by an average of 6% over a five-year period.
Another study conducted by two highly esteemed economists, Professor Andrea Frazzini of The University of Chicago Graduate School of Business and Owen A. Lamont of the Yale School of Management, showed that it wasn’t just active traders who were underperforming. Their study revealed that individual investors making their own mutual fund allocations placed money in low-performing mutual funds a majority of the time, and when they changed allocations they often transferred money from high performing funds to lower performing funds.
Since 2008, global markets have seen an unprecedented amount of volatility based on ailing housing markets, global events and other factors. This has shaken the confidence of many individual investors and has left them feeling uncertain about their financial futures. Because of this, investors are more often turning to high performing investment advisers to increase their investment returns.
What is an Investment Adviser Representative?
Investment adviser representatives (IARs) are investment advisers who are employed by state or federal registered investment adviser firms. Investment adviser representatives can make recommendations or provide advice on the value, purchase, and sale of securities. They can also manage accounts or client portfolios and can even supervise other employees who provide similar services.
Investment adviser representatives are subject to the same registration requirements and regulatory standards as investment adviser firm proprietors, and are only set apart by the fact that they are employees, rather than principals, of these firms.
Investment Adviser Career Paths
Investment advisers generally have two career paths to take. They either work for an existing firm as investment adviser representatives or start independent firms in accordance with state and federal registration requirements. Investment advisers who begin as representatives may later go on to establish independent IA firms; however, previous employment with an IA is not required of those interested in starting an independent practice of their own.
In order to shield themselves from personal monetary damage and to meet the requirements of certain state Securities Commissions, individual investment advisers can function independently as a firm by forming an LLC or other similar business designation.
Fiduciary Responsibility Vs Suitability Standard
Based on the United States Supreme Court’s decision in S.E.C. v. Capital Gains Research Bureau, Inc. (375 U.S. 180 (1963)), Congress has implied that investment advisers have a fiduciary responsibility to act in the best interest of their clients, although this is not explicitly stated in the Investment Advisers Act of 1940. This is a more rigorous standard than broker-dealers are held to, as they are only required to provide “suitable” advice. If an investment adviser recommends a product with high fees while having knowledge of another, equally suitable product with lower fees, this would be considered a breach of fiduciary responsibility.
In order to meet fiduciary standards, investment advisers are required to adhere to these tenets:
- Act solely in the interest of the client with the exclusive purpose of providing benefits to the client
- Have an appropriate amount of education or consult with outside experts as needed
- Carry out duties prudently
- Diversify plan investments
- Disclose any expenses
Advisers may be personally liable for any damages caused by their failure to meet their fiduciary responsibility. Courts take very seriously an adviser’s fiduciary responsibility and have brought both civil and criminal action against fiduciaries who have committed blatant transgressions.
Securities sales agents are not required to disclose the same information in order to meet the standard of “suitable” advice. According to the Financial Industry Regulatory Authority (FINRA), in order for registered representatives to meet the suitability requirement, they have to make reasonable attempts to collect the following information:
- The customer’s financial status
- The customer’s tax status
- The customer’s investment objectives
- Other information used or considered to be reasonable in making recommendations to the customer
Under the suitability standard, a registered representative wouldn’t necessarily have to recommend a suitable product with the lowest fees, although industry professionals and regulators largely agree that it would be unethical not to do so providing it was the best product for the client’s needs.
Fee-Only and Fee-Based Advisers Versus Commission-Based Advisers
In order to uphold their fiduciary responsibility and avoid conflicts of interest with commission paying products, investment advisers often operate with a fee-only or fee-based business model. According to the National Association of Personal Financial Advisers, a fee-only investment adviser is compensated through a combination of applicable fees that may include asset management fees, a set hourly rate or fees for other services beyond investment advisory services, which often includes estate and retirement planning.
A fee-only adviser may not receive commissions, bonuses, finder’s fees or any other form of outside compensation. The fee-only model is the ideal model for meeting fiduciary responsibilities; however, for independent advisers, the fee-only model requires a larger amount of assets under management in order to produce enough revenue to sustain the practice. The most common fee structure is to charge a percentage based on the total assets under management. This fee is often between 0.25% and 2.0%.
A fee-based investment adviser charges the client in the same way as a fee-only adviser but may also receive commissions for creating client portfolios with certain products, which in most cases include annuities or mutual funds. The fee-based adviser, like the fee-only adviser, commonly charges a percentage of the client’s assets that they have under management. The percentage they charge might be lower if they are receiving commission from the products they recommend.
Although there isn’t a clear rule concerning fiduciary responsibility for fee-based advisers, they are usually considered to be bound by fiduciary responsibility. Fee-based advisers can meet their fiduciary responsibilities by disclosing to the client their compensation model, including disclosure of any commissions or other compensations paid from sources other than the client.
Commission-based advisers usually fall under the suitability standard while fee only advisers are considered to be fiduciaries.
Changes Under the Dodd-Frank Wall Street Reform and Consumer Protection Act
Under a provision included in the Dodd-Frank Act that was enacted in July 2011, any investment adviser with less than $100 million in client assets under management must register with their state’s Securities Commission, while those who manage in excess of $100 million qualify for federal-level registration with the SEC.
Since the threshold for federal registration prior to July 2011 was $25 million in client assets under management, this Dodd-Frank Act has essentially created a new class of investment advisers referred to as mid-size advisers, those who manage between $25 million and $100 million in client assets. According to the SEC, this has resulted in some 11,500 mid-sized advisers having regulatory responsibility reallocated to the state level. This has required these mid-sized advisers to meet state-imposed exam and registration requirements as they migrate from operating under the regulatory authority of the SEC to state-level registration with their respective state Securities Commissions.
Registration and Exam Requirements
Becoming an investment adviser or investment adviser representative does not require formal education or affiliation with a financial services firm, but most of these financial professionals have a bachelor’s degree. Candidates must pass the Series 65 Exam in order to practice as independent investment advisers or as representatives of investment adviser firms. Alternatively, the Series 7 Exam can be taken in combination with the Series 66 Exam. The latter is the option most often pursued by broker-dealer agents interested in expanding their role to include investment advisory services, as most already hold the Series 7 license.
These Series Exams are computer-based tests that are offered regularly at convenient times and locations through third party exam service providers. Most candidates purchase self-study materials or participate in online seminars to prepare for these exams.
After successful completion of the appropriate exam, independent IA firm proprietors complete a two part, disclosure document called an ADV, which is submitted electronically to either the state Securities Commission or the SEC, depending on the total assets the firm plans to manage. Investment adviser representatives become registered when their employing firm submits the Form U-4 disclosure document on their behalf.
Custody and Discretionary Authority Over Client Funds
Client funds are held at brokerages or other custodian firms with which advisers are affiliated. Brokerage firms offer investment advisers online access to their client’s account information and give them access to the services of compliance officers who examine advertising material to assure compliance with regulating authority guidelines. Brokerages can also allow investment advisers to access investment products that individual investors would not otherwise have access to.
Although advisers do not physically hold client funds, they are said to have custody if they have direct or indirect access to client accounts. Investment advisers with custody over client funds are subjected to additional scrutiny, and required to disclose this fact on the Form ADV disclosure document, which is made available to clients, prospective clients, and regulators. They must also submit to a yearly independent audit of client assets, and a compliance audit intended to verify they are adhering to all laws pertaining to custody of client funds.
Investment advisers may have the power to make investment choices on behalf of investors, but this doesn’t necessarily mean they have full discretionary authority to act on these recommendations by actually purchasing or selling securities on the client’s behalf. In order to have full discretionary authority so as to be able to buy and sell securities with funds in a client’s account, investment advisers must obtain written permission from the client listed on the account. Investment advisers can only accept permission from clients orally, as opposed to in writing, within the first 10 days of the client account becoming active. Permission to act with discretionary authority can only be granted by the specific individuals named on the account, regardless of their relationship to the account holder.
Investment Adviser Salary and Employment Projections
According to the U.S. Department of Labor’s Bureau of Labor Statistics (BLS), the number of financial advisors working in the United States is expected to grow by 4% during the current 10-year period ending 2029. The median annual wage in 2019 for financial advisors was $87,850, according to the BLS.
As of 2019, New York was the highest paying state in the nation for financial advisors, where the average salary was $166,100, according to Forbes. Just behind New York was California, where the average was $141,100 salary per year. In third place was Connecticut, where the average was $ $137,120. In fourth place is the District of Columbia with a salary of $135,770; rounding out fifth place was Maine with average wages of $134,380.
Employees are finding that contributions to pension plans are being cut while simultaneously being encouraged to contribute to company sponsored 401(k), 403(b) and IRAs. These types of plans require employees, often with little or no investment knowledge, to make choices about which funds to select. As some 78 million baby boomers reach retirement age, more will look for the services of financial advisers to help them make sense of complicated topics like IRA distribution, estate planning, and portfolio management at a time where even short term events in the investment markets could have a serious impact on retirement plans.