Investing is complicated, and it may seem easy to hand your financial future over to an advisor and wipe your hands of it.
But that's a mistake. Even if you have an advisor, it's incredibly important to understand the state of your own finances. Believe it or not, the advisor or firm you're investing with might not always have your best interests at heart.
According to a new report from the Motley Fool's Robert Brokamp, understanding your personal finances means being able to answer a few simple questions. "If you can't answer 'yes' to these fundamental questions," the report warns, "then you may be in more trouble than you think."
1. Do I understand how my financial manager is being compensated?
Financial advisors are usually paid through a "broker dealer" model — you get advice and the advisor gets commissions, fees, and other transaction-based payments. Brokamp says that this is a deeply problematic model. "Most advisors are not taught, nor trained professionally, to manage your money; rather, they're taught to gather assets," he explains. "The more assets they've accumulated from you, the more fees they collect, the more transactions they can create, and the more revenue they create for their firms."
2. What is the logic behind every single one of my broker's recommendations?
A good broker should be giving you clear and thorough explanations of any and all financial recommendations. You should understand the potential costs and gains associated with each decision. Only by knowing that can you truly be comfortable putting your personal finances in someone else's hands.
3. Am I confident that I'm being offered the investment products that will best serve my own interests?
Oftentimes, financial advisors are incentivized to sell certain types of funds that earn them bigger commissions. But these aren't necessarily the assets that are best for you. "Considering this is an incredibly common practice within the financial industry, it's hard to be sure you are ever really being offered the best possible product," Brokamp writes.
4. Am I enthusiastically encouraged by my broker to understand my portfolio situation and the decisions that go into achieving that strategy?
There are a few key questions everyone should ask before determining a portfolio strategy, explains Brokamp. The basic concepts to consider are: (1) your time horizon; (2) your risk tolerance; and (3) your current portfolio holdings.
For more detail, read the full report here.
SEE ALSO: 3 Questions You Should Ask Before Forming A Portfolio Strategy