If you had to make a life and death decision, wouldn't you take your time to choose wisely? The more knowledgeable you become before making the decision, the greater your chances will be of making the correct one, right? Now, why is it that so many people ignore this common sense approach when it comes to choosing someone to manage their money? Successful money management depends on obtaining the knowledge necessary to either manage your own investments properly or hiring the right person to do it for you. Period!
Too many people assume that if they are not going to manage their own investments, then they do not need to know anything about investments. After all, they are going to have a "professional" doing it for them. This has never been further from the truth. Today's investor must realize that many of the "professionals" that manage other people's investments are simply salesmen that are very good at meeting their quota and not experts at investing money successfully for their clients. In the last few years, many investors have lost large sums of money for failing to hire the appropriate investment manager.
Unfortunately, without having the right investment knowledge, it is impossible for an investor to know if a money manager is good or not. Think about it. If your car is broken and you take it to the mechanic, how do you know if what the mechanic is telling you is true or not unless you know about cars? If you are like the typical person, whatever the mechanic says probably sounds pretty good and you have no choice but to believe him. This makes you vulnerable to be taken advantage of. Even though you can't really prevent this from happening when your car is broken, there is a way that you can make sure that it does not happen with your investments: become knowledgeable enough so that you know if someone is managing your money correctly.
Before you hire a stockbroker, financial planner, or money manager you have to make sure of a few things. First, the person you are hiring should have a formal education in a financial field (a degree in English Literature or Physical Education won't suffice). More importantly, he or she must also have enough years of experience in managing the investments of others (a background in selling insurance, cars or medical equipment is not appropriate). The most essential requirement is that the potential investment manager has a logical strategy to manage investments. How can you assure yourself of this?
Ask the following question, "What is your investment philosophy or strategy?"
The answer should include a detailed explanation of how investment decisions are made and what drives the decision to purchase or, more importantly, sell investments. Answers such as, "I select from an `approved list", or "I follow the research of ", or "I throw darts at the Wall Street Journal,"
are inappropriate. Words like "my research shows"
, is much better as you want a qualified, thinking manager, not a robot. Also, ask to see information reflecting their past performance history, risk profile and Sharpe Ratio. Caution should be taken if this information is not readily available as it generally separates the professionals from the pretenders.
The Sharpe Ratio is a commonly used measure of investment performance and earnings quality that tells you how well clients have been rewarded for the risk taken (the higher the number, the better). Risk profile is helpful for understanding one investment manager's strategy from another - low, moderate or high risk. This will prove valuable in making sure you get the kind of investment help that best meets your expectations. However, be advised! The numbers will have little meaning for you until you have compared this information against other benchmarks. To begin, Morningstar, Inc. instructs that a Sharpe Ratio of over 1.0 is "pretty good" and outstanding managers achieve something over 2.0. Also, Investopedia.com reflects that: The Sharpe ratio tells us whether the returns of a portfolio are because of smart investment decisions or a result of excess risk.
If the potential investment manager does not do what it takes to invest correctly, or is not able to educate you on their past performance statistics, then you should not hire them. And, if you have made the mistake of hiring someone before taking the steps above, don't worry. Set up an appointment; take them through the above process, and find a replacement if these essential requirements are not met.
Successful money management requires that you become knowledgeable about investments and the investment management process, even if you plan on hiring or have already hired someone to manage your money and investments. Take your time to become prepared. It is not a matter of life and death, but it is a matter of long-term financial success or ruin.