NEW YORK (Money) -- Question: I hear constantly that there is no better investment than index funds because, with few exceptions, mutual fund managers don't beat the market averages consistently. If that's the case, wouldn't it make sense for me to just invest all my money in index funds on my own and stop paying a financial adviser 1.5 percent a year for advice as I'm doing now? - Steffy Lafaro, Boston, Mass.
Answer: As regular readers of this column know, I've long advocated investing in index funds. I like them because of their low fees, tax efficiency, long-term superior performance and because you know exactly what you're getting when you buy index funds, which makes them ideal building blocks for a portfolio that gives you exposure to a variety of asset classes.
So, as I stated in a column I wrote earlier this year, you won't have any trouble convincing me that putting all or most of your money in index funds is an excellent way to invest. I also believe that most people are fully capable of investing their money on their own, as long as they understand the basic principles of creating a sensible investing strategy, which is hardly rocket science.
Indeed, you can easily pick up most of what you need to know by perusing our Money 101 lessons on investing topics. But this doesn't mean that I find the idea of investing in index funds and working with a financial adviser mutually exclusive. Why? Well, for one thing it's not as if once you decide to invest in index funds that every investing and financial issue you face is immediately resolved.
There are plenty of other questions you've got to deal with, starting with which index funds should you invest in? There are hundreds, after all, if you include exchange traded funds, or ETFs. Then there are questions like, how should you divide your money among whatever index funds you want to buy, and how do you maintain those proportions over time when different index funds are generating different rates of return?
And we haven't even gotten to broader issues, such as how much of your earnings should you be putting in these funds anyway, so that you'll have enough a large enough nest egg to retire comfortably? And when you're ready to retire, what's the best way to turn those balances into a reliable income that will support you the rest of your life?
Again, I don't think you need to be a financial whiz kid to arrive at reasonable answers to such questions on your own. But many people don't want to grapple with such questions. Some people are simply uncomfortable dealing with financial issues the way that I'm not so keen on doing anything other than the simplest work around the house (fixing the occasional faucet washer, replacing screens with storm windows, maybe painting a bedroom if I'm feeling really ambitious). Or maybe they just feel they have better ways to spend their time.
In any case, if you're not going to devote the time and attention to handling your finances, whatever the reason, then it probably pays to have someone give you a hand. That's certainly better than making haphazard or random decisions on your own, or completely neglecting your financial affairs. But even if you decide you do want help, that doesn't necessarily mean you should fork over 1.5 percent of your assets a year to an adviser to get it.
Today, there are a growing number of ways to get financial help, ranging from working with a financial planner or other adviser who charges an annual fee to hiring an adviser on an hourly or project basis to working with investment firms that provide advice over the phone or through online tools for a fee or maybe even for free. (To read an earlier column of mine that goes into these options, click here.)
Before you can know which option is right for you, however, you've got to think about exactly what it is you need help doing. Do you just want help choosing a few mutual funds? Are you looking to create an investment portfolio? Do you need guidance creating a savings and investment plan for retirement or to achieve overall financial security?
As I pointed out in a recent video answer to a reader who asked me how to find financial help, you stand a much better chance of ending up with the right type of assistance at the right price if you think about what sort of advice you need before you start looking for it.
To sum up, I suggest you take a little time to consider just why you're paying your adviser 1.5 percent a year. If all you're really getting are mutual fund picks and you feel you could put together a portfolio on your own using index funds, then it may make sense to sever your ties and put what you had been paying in fees into those index funds.
If you were also getting additional help - guidance on how to structure your portfolio, how much to save for retirement and other goals, etc. - then you'll have to decide whether that advice is still worth 1.5 percent annually, or whether you can get that help in a more cost effective way, whether from the same adviser or a different adviser or advice program.
But whatever you do, don't assume that simply investing in index funds will answer all your investment questions and set you on the path to financial security. Index funds are good, but not that good.
