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Commission or Fee-Based?

7/27/2017

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This week I received an email brochure offering for sale a beautiful Cessna Citation Jet. Of course I am not now nor will I ever be in the market for a jet, but they are fun to look at. The brochure showed a gorgeous 1999 model and the asking price was just a fraction of what it sold for originally. In fact, this beautiful jet could be picked up for less than the cost of many single engine piston airplanes.
 
I showed the brochure to Launa and jokingly asked if she was ready to move up to a jet. She was in disbelief at the low price and wondered what the reason might be.  I explained to her what all pilots and plane owners know about planes, and jets in particular, especially 18-year-old ones. It isn’t about the cost to buy, it’s about the cost to own. As jets age, the cost to maintain them grows dramatically until the point where it simply is more cost effective to buy a new one. Airplane magazines are riddled with beautiful older jets that are basically being given away because the owners can no longer justify the maintenance costs. An unsuspecting owner who is taken in by the cheap price tag may be in for a very expensive surprise.
 
I recently worked with a client who had purchased an investment years ago from an advisor who made a point of emphasizing the low acquisition cost. Unfortunately, the ongoing high cost of ownership had been a serious drag on performance. This individual had failed to account for, or not been properly advised on, these high long term costs.
 
Investments have costs associated with them. Sometimes these costs come in the form of upfront commissions and sometimes they are charged by the advisor as annual management fees. Many wonder which method of paying for services is better for the client. With each situation I encourage people to consider the overall cost of ownership, and the expectations of the advisor involvement. If an investment is long term and requires little management, an upfront commission may be the most cost effective option. If you are going to want ongoing management and advice, it may be better to consider a fee-based structure that encourages an active relationship with your advisor.
 
Far too many investors have made the mistake of trying to save a few bucks up front in exchange for getting themselves into a situation with higher ongoing costs. Like the beautiful Cessna Citation in the brochure, the initial price seems very attractive, but failing to take into account the long term high operating costs could doom an unsuspecting buyer. In airplanes and investing, we must always consider not only the cost to buy, but maybe the even more important issue, the long term cost to own.
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If an Investment Smells bad – Get out Now.

7/20/2017

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A great mentor taught me, “Be careful of your environment because humans adapt to survive.” This lesson was driven home years ago on a family vacation. When we arrived at our destination we realized the motel we had booked was far less than hoped for, a true roach motel you might say. My first response was to find another location, but due to the circumstances, no other options existed. I remember that creepy first night avoiding touching anything and walking around only with my shoes on.
 
The next morning, I couldn’t wait to get outside and begin our visits to the tourist sites in the area. As it turned out, the vacation ended up being quite a memorable trip. Oddly though, despite our wonderful activities, what still stands out most in my mind was the moment I was getting ready for bed on the last night. I stood at the sink brushing my teeth, in my bare feet, completely oblivious to all the horrible thoughts I had about that motel just a few days earlier. The cracks, the stains, the smells, even the bugs, had disappeared to me. All of my disgust just a couple days prior for this “roach motel” had been forgotten as I had truly “adapted” to my environment.
 
I discussed this experience with Launa many times since. I have used it in parenting moments with my kids, teaching them to avoid unsavory people, or improper situations, lest they quickly adapt and begin to accept the once unacceptable.
 
The ability to adapt allows humans to make the best of their situation and survive. It is a valuable trait, but one that also presents danger. How many have gone down a dark path in life, slowly accepting and then embracing what was once unthinkable? The same trait has cost the fortunes of many investors. Years ago a lady who had been a victim of investment fraud said to me, “I don’t know how I allowed this to happen. It should have been so obvious.”
 
She had gotten involved in an investment that she felt uncomfortable with from the start, but she allowed herself to justify investing a mere $5,000. As time passed she quickly adapted to her new financial surroundings, becoming more comfortable with individuals and situations that once caused her concern. Uneasy feelings faded into acceptance of the new norm. As she adapted, her small investment grew to include her entire portfolio, nearly a million dollars. She had allowed herself to spend a few nights in that financial roach motel, to which she quickly adapted. In the end, she lost everything.
 
Like a bad motel, bad investments are often most apparent when we first confront them. If you find yourself in such a situation, the best and easiest time to get out is right now. If you stick around for just a bit, you may one day find yourself living in your own financial roach motel, and feeling eerily comfortable with it.

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    Hi, I'm Dan. I'm a CFP® ​Professional.
    ​I share my investment knowledge with my readers by utilizing engaging stories and real life examples.

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