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Confused by all the industry jargon many financial professionals like to use? You’re not alone. Equity, fiduciary, wirehouse, robo-advisors, fixed income, and ETF’s are but a few words which may be confusing if you’re not familiar with this industry. In this article, I’ll hopefully give you a better sense what all these terms – and a few more – mean in simple, understandable language. My intent is to de-mystify the investment industry and provide a sort of “decoder ring” for consumers to use.
If you’re searching for an investment professional to manage your portfolio or need a financial planner to help with retirement planning, the financial services industry offers two very different business approaches. The “wirehouse” model consists of financial professionals who work for a large firm, typically with a national footprint, and receive support and benefits from that firm. Many wirehouses are divisions of the banking conglomerates. Sometimes these wirehouses will feature proprietary investment offerings along with cross-branded service offerings.
The other model consists of “independent” financial professionals working as independent contractors either in conjunction with a broker/dealer or a registered investment adviser (RIA). Independent financial professionals generally own their own computers and office equipment, rent office space, pay their own phone and Internet bills, place their own ads or sponsorships, and purchase wholesale account services to conduct their business. These “independents” are business owners just like locally owned restaurant owners, chiropractors, plumbers, or auto mechanics.
I am an independent advisor, for example, as are the other client-facing advisors at WWM Financial, which is set up as an RIA. In 2007, I co-founded Alliance Investment Planning Group, located in Carbondale, IL, which is affiliated with the largest independent broker-dealer in the U.S. These are two examples of the “independent” model. A notable difference is in naming conventions: Wirehouses have branches of the parent firm located throughout the U.S., all carrying the name of their parent company. Whereas independents generally create their own name – e.g., WWM Financial, Alliance Investment Planning Group, Jack & Jill’s Investment Group, Humpty Dumpty’s Planning LLC.
In terms of the financial professionals themselves, there are different types of professionals depending on which licenses have been obtained and services are being offered, along with the commensurate regulations that apply to each type. For example, a registered representative, which is more commonly called a securities broker or stockbroker, has passed FINRA exams such as the Series 7 exam and is licensed to sell different securities and products such as stocks, bonds, options, and mutual funds. Registered rep’s are regulated by FINRA, the self-regulatory organization (SRO) authorized and overseen by the Securities and Exchange Commission, or SEC, and are transactions-based providers held to a suitability standard which requires brokers to only recommend investment products suitable for a client’s circumstances. Registered rep’s generally follow a more sales-oriented model, charging commissions for the purchase and sale of securities similar to those in a wirehouse.
The other primary type of financial professional is an investment adviser representative, more commonly referred to as a financial advisor or investment advisor. Financial/investment advisors must pass the Series 65 exam (or a combination of the Series 7 and 66 or possess a professional designation such as the CFP® or ChFC®) and are regulated by their state or the SEC, depending on how many assets they manage. Financial/investment advisors counsel clients on investing and financial issues and are held to a higher legal standard (e.g., than suitability) called a fiduciary standard or duty. Most financial/investment advisors do not charge sales commissions for investment products, but rather an asset-based fee for their ongoing investment advice typically expressed as a percentage of the assets under management. The fiduciary duty requires advisors to place their client’s interests above their own, and to eliminate conflicts of interest and properly disclose to their clients all those that are not. Suitability is essentially a subset of the fiduciary duty.
Here’s the really tricky part. Stockbrokers and investment advisors can be found in either wirehouses or broker-dealers or RIAs. In fact, some financial professionals are dual-registered, meaning they can offer financial products on a transactional commission basis as a registered rep, but can also provide ongoing financial or investment advice on a fee basis. So for example, a dual-registered broker/advisor affiliated with an independent broker/dealer could be managing a taxable account for a client set up as a commission-based brokerage account, meaning the broker is held to the suitability standard for this transactional account. That same client may have another account with the same financial professional set up as a fee-based account, which would legally be held to the higher fiduciary standard. Confused? Yes, I understand, it isn’t as easy as it should be to figure out what type of professional you’re working with, how they’re compensated, and what legal standard they’re held to. My advice? Ask, and do your research before hiring someone. The SEC provides a site for consumers to help with that research: www.adviserinfo.sec.gov.
To make matters even more confusing, there are many credentials available and in use inside the financial services industry by brokers and advisors, some very meaningful and others less so. Perhaps the most respected and significant designations are the CERTIFIED FINANCIAL PLANNERTM, or CFP®, the Chartered Financial Consultant, or ChFC, and the Chartered Financial Analyst, or CFA.1 These designations all require college-level coursework, passage of examinations, extensive time commitments, and sometimes an experience and ethics criteria as well. The CFP® and ChFC credentials require knowledge and testing on a broad array of financial topics, including taxes, insurance, investments, employee benefits, retirement planning, educational savings plans, and estate planning. If you want to work with someone who has invested time and effort into their career and has a broad financial knowledge base, it might be worth considering a CFP® or ChFC professional. CFA’s, on the other hand, are more specialized in investments and specifically investment analysis. Many mutual fund or hedge fund managers are CFA’s, generally cutting their teeth as an investment analyst initially before eventually becoming the fund manager. Which is better? It depends on what you’re looking for. If you only need help evaluating investment products, a CFA may be a reasonable choice. But if you’re looking for a financial partner or consultant to help you navigate life’s myriad financial challenges, the CFP® or ChFC designations may be more useful in identifying prospective advisors for you to work with.
It’s important to realize that the credentials are distinct from the type of financial professional you’re dealing with. A few registered rep’s, for example, have obtained a CFP® designation. And many investment advisors do not have CFP®’s or ChFC’s or CFA’s. But more commonly, CFP® and ChFC designations are associated with financial/investment advisors who do business as fee-based advisors/planners acting in a fiduciary capacity. And CFA’s are more common in the fund management world (i.e., mutual fund, hedge fund, endowments) than in the client-facing world (i.e., stockbrokers, advisors). This isn’t a hard and fast rule, but rather an observation on where the industry is today, and where it appears to be headed. Each issuer of these designations provides an online search to determine if your advisor’s designation is in good standing.
To wrap this up, I wanted to quickly cover a few terms that sometimes confuse consumers unfamiliar with the financial services industry. When brokers/advisors refer to “equities”, they’re generally talking about stocks. Whereas when they refer to “fixed income”, they’re generally talking about bonds. Which is unfortunate because bonds do not have fixed returns like bank CD’s, unless the bonds are held to maturity. Investors who sell their bonds in the secondary market before maturity may get more, or less, than what the bond was originally sold for. ETF’s are exchange-traded funds, a security similar to a mutual fund but actually traded on the stock exchanges. Most ETF’s are index-trackers, but not all. ADR’s are American Depository Receipts, which is how American investors can purchase foreign stocks listed on foreign exchanges, since each ADR represents a specific number of shares of a foreign-listed stock. Finally, “robo-advisors” aren’t advisors at all, but rather automated investing services using computer algorithms to build and manage an investment portfolio.
I hope this short article helps decrypt some of the confusing language used by the investment industry.
1 “Four Best Financial Certifications” by Ellen Chang, U.S. News & World Report, August 11, 2020
Scott McClatchey is a wealth advisor and CERTIFIED FINANCIAL PLANNERTM with WWM Financial, an SEC registered Investment Advisor in Carlsbad, CA. He can be contacted by phone on 760-692-5190 or by email at email@example.com .
This commentary on this website reflects the personal opinions, viewpoints and analyses of the WWM Financial employees providing such comments, and should not be regarded as a description of advisory services provided by WWM Financial or performance returns of any WWM Financial Investments client. The views reflected in the commentary are subject to change at any time without notice. Nothing on this website constitutes investment advice, performance data or any recommendation that any particular security, portfolio of securities, transaction or investment strategy is suitable for any specific person. Any mention of a particular security and related performance data is not a recommendation to buy or sell that security. WWM Financial manages its clients’ accounts using a variety of investment techniques and strategies, which are not necessarily discussed in the commentary. Investments in securities involve the risk of loss. Past performance is no guarantee of future results.
So here’s an understatement…there is some real volatility affecting the stock market these days.
In the last couple of months, the broader stock market is down around 12 or 13 percent from the highs. And from the beginning of the year the markets are down around 3 or 4 percent.
Some of the reasons for the decline? There’s technology stocks being overvalued, social media stocks getting pummeled for privacy concerns, and interest rates moving higher. But we believe the biggest reason for the recent stock market move is the tariffs that President Trump is putting on foreign goods. And exacerbating that is the indiscriminate selling of stocks, especially through Exchange Traded Funds, many of which have the large tech stocks as big holdings.
Will the tariffs be the reason the market will fall significantly from here?
Before we answer that, let’s take a look at what’s happening.
Trump says that other countries, especially China are already putting large tariffs on U.S. goods, and have been for many years. If you don’t know, a tariff is just another word for a tax. Trump is saying that those tariffs on U.S. products are creating an uneven playing field that puts the U.S. at a disadvantage. And to be honest, he is correct.
HIS solution is to put tariffs on foreign goods, especially those coming from China. This is causing China to up the ante with more tariffs on U.S. goods.
Let’s be clear, trade wars are never a good thing. Stock market investors and traders get very nervous when they start talking trade wars. Will this cause additional major erosion to the stock market going forward?
Certainly anything is possible, but the big cross current here is that we believe earnings for the first quarter, which will start being reported in the next couple of weeks, will come in pretty strong. Most of the economic metrics we have seen recently still show a strong economy. So unless corporate earnings are much worse than we think they will be, or the economic numbers start sliding, we believe the downside for the broader market is somewhat limited.
If you are a stock picker, there are some very good companies that are starting to look fairly inexpensive.
We do want buyers to beware that if indiscriminate selling continues, in other words panic starts taking over, it can take the market down significantly. But for the long-term investor, we believe the risk/reward is starting to look more favorable again.
For more market, investing and financial planning videos, please check out our website at wwmfinancial.com. And as our sister company, Savvy Women Wealth Management says, Savvy Up!!
Steve Wolff is a Managing Partner at WWM Financial in Carlsbad California. Steve can be reached at 760-692-5190 or Steve@WWMFinancial.com.
Today’s financial planning tip is Investing in Stocks.
If you would like to watch the video click on the image above.
Turn on the TV nowadays, or surf the Internet, and you’re certain to run into someone talking about making a fortune from owning one specific stock or another. Even the 6 o’clock news generally recaps the day’s trading activity, including what stocks went up or down, and what the S&P 500 or Dow Jones Industrial Average closed at for the day. Ever wonder what exactly is a stock, and what it means to own shares in a company? Many people today invest in stocks without even knowing what they’re investing in, or what the fundamentals are for a specific company. This video lays out the basics of investing in stocks, along with a few tips on what to do, and better yet, what not to do.
Stocks represent an ownership position in a company. More specifically, corporations issue shares of stock to raise capital to fund their growth, which is used for R&D, new projects, product development, supply-chain expansion, acquisitions, or many other business-related activities. Investors can purchase these shares of stock, which are listed on a stock exchange or exchanges, through a broker by opening up a brokerage account. Stock is generally purchased from another investor who wants to sell her shares. In other words, most stock trades involve a buyer and a seller, although it is possible to purchase shares directly from the issuing company. Owning shares of stock in a corporation entitles the owner to vote in shareholder meetings, receive dividends paid out of company profits, and (potentially) share in the appreciation of the company’s share price. Not all corporations pay dividends, but many of the larger, more mature companies do pay dividends, typically quarterly. Stocks are sometimes referred to as equity or equities.
OK, with that out of the way, why would someone want to own shares of stock? Simply put, to make money by participating in the capital growth of the company through appreciation of the share price, and to earn the dividends being paid out to shareholders. Over the long-term, stocks have provided higher returns than bonds or cash, but this superior performance comes with higher risk and volatility. In the short-term, some stocks can be very volatile, meaning their share price can rise or fall quickly and sometimes unexpectedly. Owning an individual stock also subjects the shareholder to unsystematic or company-specific risk. Unlike systematic risk, which can be thought of as the risk associated with the entire market, unsystematic risk can be reduced through diversification. Investors wanting to reduce their unsystematic or company-specific risk can buy additional stocks within the same industry, but can also buy stocks spanning many industries. For example, an investor owning Ford but wishing to diversify his holdings might also buy shares of GM, BMW, and Toyota, for example, to broaden his exposure within the auto sector. To diversify even further, this investor might also want to own stocks of a few retailers, health care providers, utilities, banks, technology companies, energy producers or distributors, and some consumer products firms.
Broadly diversifying a portfolio can help reduce downside risk and volatility, but it does tend to dilute the impact of the investor’s “best ideas”. In other words, if an investor has 3 or 4 “great stock ideas” which she believes in with high conviction, just buying those stocks would result in a very concentrated portfolio with high risk and volatility. If the investor’s “best ideas” work out, that concentrated portfolio might grow more rapidly than, say, a well-diversified stock portfolio spanning all 11 sectors of the US economy. But if those “best ideas” don’t work out as the investor anticipated, that concentrated portfolio might drop precipitously in value over even a relatively short period of time. Owning stocks is not for the weak of heart. If a company goes out of business, the company’s shareholders can lose everything. In other words, shares of stock in companies filing bankruptcy and liquidating assets generally go to zero. Common stockholders don’t get paid in a bankruptcy liquidation until creditors, bondholders, and preferred shareholders have all been paid.
To adequately diversify a stock portfolio, it generally takes upwards of 50 different stocks, and it might be necessary to own several hundred different stocks, depending on which market or markets the investor is trying to diversify across (e.g., US large-cap, entire US, developed world, entire world). This is why many investors, particularly beginning and hands-off type investors, choose to employ mutual funds or exchange-traded funds (ETFs) rather than trying to assemble a diversified portfolio themselves. It’s important to realize, however, that purchasing a single mutual fund or ETF doesn’t necessarily fully diversify an investment portfolio. You can learn more about that in my Mutual Funds and ETFs video. And bear in mind there are several different asset classes, such as US large-cap stocks, foreign developed country stocks, or emerging market stocks, as well as different investing styles, such as value or growth. That’s not to mention modern strategies like growth at a reasonable price, or GARP, alternative investments, theme-oriented investing, or factor-based investing.
Before I wrap this up, let me offer a few other suggestions derived from many years of observing and participating in the stock market. First, do your homework, don’t just invest in a stock because you heard about it on the Internet or at the gym or from Cramer on CNBC. You need a solid stock selection or filtering approach and a buy/sell process. Fundamental analysis takes into account a company’s fundamentals, such as their revenues, earnings, return on equity, profit margins, and growth metrics, as well as the company’s management team, competitive positioning, brand strength, supply chain, and cost of doing business. Technical analysis analyzes a company’s stock chart, and considers things like support levels, resistance levels, short and long-term trends, trading range, and recognizable repeatable patterns. Although a lot of stock information is available online for free, many firms provide detailed stock information and analysis on a subscription basis, such as Standard & Poor’s, Value Line, Argus Research, Morningstar, and Zack’s.
Once you’ve done an analysis and decided to purchase a stock, make sure you know ahead of time the price level at which you’ll sell the stock to lock in your gains if the share price were to rise, or the price at which you’ll sell if the stock price starts to drop. Limit and stop-loss orders can be used to automate your buy-sell targets. And most importantly, don’t get emotional about a stock holding. Many investors make the mistake of waiting for a losing stock position to return to its original price before they’ll even consider selling. That can be a big mistake! Once you’ve bought a stock, think of it like a sunk cost. What’s done is done. If the stock price drops 25% in the first month, re-evaluate whether you want to continue holding it at this new price, independent of your original purchase price. If, based on your research and knowledge, there are better investment opportunities now, don’t hang on just to avoid a loss because you don’t want to admit to yourself or someone else you made a mistake. On the other hand, if your conviction is still strong, and nothing fundamental has changed – other than the 25% drop in share price – you might decide to continue holding the stock because you believe the current share price is too low and will eventually go up.
Finally, don’t chase returns. In other words, if a stock has gone up 69% over the past 8 months, that doesn’t mean it’ll automatically go up another 69% over the next 8 months. In fact, many times stocks that run up significantly in price over a relatively short time period may “mean revert”, meaning come back down to earth and have sub-par performance over the ensuing time-period. Last year’s winners are sometimes this year’s losers. It doesn’t always happen that way, but this “law of averages” concept does come into play frequently with stock investments. Part of the challenge is sorting out companies whose stock may run up for many years in a row from those who may have had a good quarter or year or couple of years, but then revert to a lower-growth, or sometimes negative-growth, trajectory. And be aware of a wise old axiom of investing that goes something like this: “It’s not (necessarily) market-timing that produces wealth, it’s time in the market.” Which is another way of saying, to take advantage of the excellent long-term returns produced by stocks, investors need to actuallybe in the stock market a good portion of the time in order to let the markets work their magic. This is an important concept to remember.
Now, assuming you’ve done your homework and you’re willing to take the risk, go out and buy some stocks!
Nothing in this video should be considered a recommendation or endorsement of specific stocks or techniques. Investors should conduct their own research before buying or selling any stock or stock fund.
Scott McClatchey is a CERTIFIED FINANCIAL PLANNER™, CFP® with WWM Financial in Carlsbad, California. Scott can be reached at 760-692-5190 or Scott@WWMFinancial.com.