There are 9,500 mutual funds for you to buy. Which ones are best for you to own in retirement? We explore that and the death of the DOL “fiduciary” rule.

Make It Last with Victor Medina is hosted by Victor J. Medina, an estate planning and certified elder law attorney and Certified Financial Planner™. Through his law firm and independent registered investment advisory company, Victor provides 360º Wealth Protection Strategies for individuals in or nearing retirement.

For more information, visit Medina Law Group or Private Client Capital Group.

Click below to read the full transcript..

Victor Medina:  Everybody, welcome back to Make It Last. I’m your host Victor Medina. A happy Memorial Day weekend to you all. I’m so glad you could join us here this Saturday morning. First thing, I’ve got to apologize. Those of you that tuned in last week on the radio show unfortunately heard a rebroadcast, and the reason isn’t great.

I had a bit of a family emergency. I’m fine. My immediate family is fine, namely my children. I did have one of my parents run into a health issue that has caused me to be out of the office to help them with that. I may go into detail about that in the future but for now just know that I appreciate your listenership and the fact that you joined us here.

Please accept my apology for not sending out a new show. We are back with a new show for this fine Memorial Day weekend. I’m excited personally because it’s a big long soccer weekend. I’ve always thought about Memorial Day weekend as a soccer weekend.

My middle child’s got a soccer tournament and we’re going to be excited to go over to Manalapan and watch him play. Hopefully, the weather cooperates and hopefully the record reflects the hard play that I know he’s capable of putting in as well as the rest of the team. Go NLSA Knights. What can I tell you?

Lots of things in the news related to my favorite subject, which is, you need a fiduciary helping you in your financial life. Since the last time I’ve been on the air, we had the death knell of the DOL Fiduciary Rule.

As of May 7th, that thing is gonesers. It’s not a chance it’s coming back. This administration will not challenge a Fifth Circuit Court of Appeals ruling that said basically that law was overbroad and not enforceable. Therefore, we are back to old status quo.

What does that mean? It means that, the people that are not fiduciaries, have no obligation to work in your best interest. Why is this such a big deal? Even recently in the news? One of the reasons it’s such big news is that there’s been a quote from the Pope.

The Pope has weighed in on the debate over the need for a universal standard of fiduciary, for financial advisers. [laughs] Issued inside of the Vatican, there was a “Bulletin” that took aim at broad targets, such as selfishness in the financial industry, to more specific points including things like the credit default swaps.

Those things that got us in so much trouble. The derivative has been criticized in the past by people like Warren Buffet. Anyway, the Pope himself scrutinized financial advisers and how they manage the savings of their clients.

The savings, I’m quoting now from the Vatican Bulletin, “The saving itself, when entrusted in the expert hands of financial advisers, needs to be administered well and not just managed.” That came from a section entitled, “Considerations for the Ethical Discernment Regarding some Aspects of the Present Economic Financial System.”

The Bulletin is really focused on the practice called churning. If you’re not familiar with that, that’s basically the unnecessary actions that take place to generate commissions with no regard for the client’s portfolio.

The Bulletin continued, “Among the morally questionable activities of financial advisers and the management of savings the following are to be taken into account, the excessive movement of the investment portfolio commonly aimed at increasing the revenues deriving from the commission for the bank or financial intermediary.”

Finally, the Vatican criticized advisers who fail to act as fiduciaries by not avoiding conflicts of interest and not working as a prudent professional. A quote again from the Vatican Bulletin describing devious activities of advisers including…

“A failure from a due impartiality in offering instruments of saving which compared with some banks, the products of others would suit better the needs of the clients along with the scarcity of an adequate diligence, or even a malicious negligence on the part of financial advisers regarding the protection of related interests to the portfolio of their clients.”

Would you expect the Pope to come out anywhere other than in favor of the fiduciary specifically this Pope who goes out and washes the feet of the people less fortunate and cleaning people of different religions? This Franciscan is amongst the most pious, I would imagine, a rist, of people in charge of the Catholic Church.

It takes not a great leap of logic to understand that, in fact, people should be working with fiduciaries or financial advisers. I just don’t know how you all sleep with yourselves at night knowing that you are within the industry and acting within the industry, not looking out for your clients’ best interests and allowing that to happen.

The thing is, there are more than just me that has the structure of a fiduciary. I’m not the only one, that’s what I’m saying. Not the only one, but I’m surprised that more people aren’t doing it. I look around and the concept of being a fiduciary is still a novel concept. I had a meeting today with a prospective client who finally asked the question, “Are you a fiduciary?”

I did a happy dance of joy. I got to explain exactly what a fiduciary was and why it was important and yes, in fact, I was a fiduciary and happy to claim that I was. It’s odd to me that, as I said, more people, more financial advisors don’t affirmatively move to a structure.

They can do anything they want in life, and they move to a structure where they are, in fact, financial fiduciaries. Similarly, that’s the public. I don’t fault the public. It’s very difficult to know about it. I gave you some additional information.

One of the things that you can do, not that many people will do it, but one of the things that you can do is go to the public filings that are available for different financial institutions. We have this thing called a Form ADV, Part 2A. None of you know what that is. [laughs]

If you’re a financial advisor, if you’re a registered investment advisor, if you own your own firm, you know what this is. This is your disclosure document. This is what they call your brochure. This brochure essentially sets forth what you do in your business, how you charge, what kind of philosophy you take on.

It has a bunch of information that basically draws the map step by step about who you are and how you’re going to appear in the world to your clients. This is something that’s filed either with your state regulatory authority if you are between 20 and 90‑something million dollars of assets under management or with the SEC. This is done on a federal basis.

Victor:  I happen to have polled Morgan Stanley’s. I’m not picking on Morgan Stanley, but they’re big. It’s random. I could have picked up Merrill Lynch, Edward Jones, I could have picked any of these. I’m going to pick out Morgan Stanley. So be it.

When I come back from the break, I’m going to talk to you about what’s on the Form ADV so that you don’t have to read it. I will tell you everything that you should be aware of if you happen to be doing business with them, specifically about the nature of how they are not a fiduciary. Stick with us. We will be right back on Make It Last, right after this commercial break.

Victor:  We’re back on Make It Last. I’m actually always amused when we take a break, because as we broadcast these, rather, we’re on Facebook Live. [laughs] Every time that we come in and out of break, you can watch people who unfortunately sit through the very minor break that happens in between.

I’m talking about Morgan Stanley and specifically their Form ADV and why there is this illusion of protection where people say, “I’m a fiduciary, but, but, but in certain circumstances if I’m not, I avoid conflicts of interest,” which means that they’re not.

If you look at Morgan Stanley, it is both a registered investment advisor, that’s the firm, and a registered broker dealer. It’s got other registrations in terms of banking and things like that, but here’s the idea. It’s both an investment advisor and a broker dealer. They’ve got licenses as both.

It’s registered as both. The registered representatives of the broker dealers are salespeople and the investment advisor representatives are fiduciaries. Somebody can be employed with both, and they wear two different hats. They wear hats as a fiduciary within the advice world, but in the recommendation of products, they’re salespeople.

Then there’s all these disclosures about fees that they have. Let’s go through the Form ADV and go through that. There is in the Form ADV the payment for shelf space. Now watch this one. It’s common practice for these broker dealers to include shelf space. Shelf space is mutual fund companies paying the broker dealer a form of revenue sharing in order to secure preferred treatment.

It’s cash paid by the mutual fund in order to be on the preferred list of recommended products. It doesn’t come out of the customers’ pockets, but it’s paid out of the funds’ other revenues by shareholders, management fees, other ways that it comes up on it. It’s incredible that this is one of their revenue. What do you think they’re going to choose from?

Are they going to choose from the stuff that they’ve been compensated to have a preferred status on the shelf or are they going to choose from the best thing out of everything that’s out there? This is a form of revenue sharing. This form of participation fee it’s basically not things that keep people working in your best interest.

This is a conflict of interest. It is one that should be avoided. I’m running out of time for the whole show. I could keep going on Morgan Stanley. There are other things that should be discussed, the 12b‑1 fees. It’s all over. It may be difficult for you to conceive of working with somebody who it doesn’t have the resources to put a big commercial on national television.

It could be that you don’t feel comfortable about that, but when you understand, for instance, in working with our firm, that your money is not held by us but by a custodian, in our case Charles Schwab.

When you understand that the investments are the best‑in‑class investments for anyone that would be looking for this held by a company that might hold six, seven, eight hundred billion dollars worth of assets and investment, you can get a lot more comfortable even though you don’t have the national advertising budget that some of these other places generally spend on.

Obviously, have to get from revenues from you, from all of this transaction. You can get I think a little more comfortable working with a really high class best‑in‑class advisor that is a fiduciary, that is an RIA. I got to get to the topic for today’s show. The topic for today’s show is, actually, how many mutual funds should you own. I’ll say this, I’m not going to talk about any specific mutual fund company.

I may reference the existing companies that are out there just as an example, but I’m not recommending them. I’m not recommending them at all. I’m not telling you to invest in them or not invest in them. I’m going to use some names just as a way of highlighting that there are multiple companies that exist.

For us to understand more about it, we’ve got to realize that mutual funds in of themselves are essentially a basket of investments. This basket of investments is typically cobbled together by a manager. You’ll have a fund manager that creates a fund, and this fund has to be disclosed with the SEC.

There is a prospectus. It’s a security offered for sale, so there’s a lot of disclosures on there. One of the things that it’s going to talk about is its investment philosophy. What is it trying to do? Because it can try to do anything in the world of investing, because it can set its own agenda, you realize that large companies can create multiple mutual funds.

Mutual funds are often thought of as a good way to diversify your risk because it will hold securities together without exposing you to the risk of holding a single or a limited number of securities. At the same time, the purchasing power of the funds in the fund together allows you to own more investments than you could if you purchase them on your own.

Within that, the mutual funds themselves offer a diversification of what we would call idiosyncratic risk. Idiosyncratic risk is basically the idea that the risk of holding one security that would otherwise perform the same as its index is idiosyncratic to holding the amount of the index.

It’s just a way of saying that if you diversify, you can get the same performance without having the risk that’s involved. That’s often thought of as a benefit of owning mutual funds. As I said before, mutual funds themselves can have different investment philosophies.

Victor:  They can try, or they can try to do different things depending on whatever they say in their prospectus. When I come back from break, I’m going to tell you a few of the different things that it can do before I tell you whether or not holding a lot of different mutual funds makes sense. Stick with us. We’ll be right back on Make It Last, right after this commercial break.

Victor:  Welcome back to Make It Last. I’m just sitting here in the break thinking about this concept of holding lots of mutual funds and I’m recalling all of these client meetings that I have. I have these client meetings, and people will come in, and they will hold dozens upon dozens of different mutual funds.

When I ask them why, they’ll tell me, “Well, my advisor picked those,” or, “I was watching what had performed well and I bought some extra stuff. I didn’t get rid of everything, but I bought some extra stuff that I thought was doing well.” We have to go figure out is that a smart investment strategy?

What we have to realize is that because these mutual funds have different investment philosophies, different investment aims, generally speaking, owning a mutual fund or more than one mutual fund might make sense.

There are some mutual funds, often called a total index or a target date funds, that try to replicate an entire diversified portfolio in one fund. That can be its aim. Its aim is to be diversified.

If you’re going to have a mutual fund, whose aim is to be fully diversified, it is not going to perform as well as one that is solely in the world of equities and solely in the world of owning high performing stocks or guessing which ones are going to be high performing stocks.

We understand that we’re going to have a trade‑off then. Maybe we want some extra of the other kind in order to keep filling the bucket. Within that world, you’ve got to pay attention to a few things because as you cobble together a portfolio of different mutual funds, what you want to make sure is that you’re smartly invested across the market. That can take lots of different forms.

If you’re an investor that believes that mutual fund managers, some of them, have the opportunity to grossly outperform the market make a ton more often what we would call actively managed funds, if you believe that as an investor, you might want to own more than one actively managed fund, because most the research just it’s hit or miss, which one of them is going to outperform.

Might be worth owning more than one if that is your investment strategy, but I’ll tell you, that’s not my investment strategy. I don’t think that’s an investment strategy that you should have. I think you should stay away from trying to predict which mutual funds will outperform which other ones and which investments are going to outperform.

It’s just soundly been disproven, but if you want to do that, you might want to own various actively managed mutual funds just to make sure that you hedged against being wrong on one or more of them. The other thing that you would tend to look at is where these funds have done in all market circumstances.

If you look at a company like American Funds, American Funds is often very attractive to investors, because of the way that it invests, leads it to be very successful in successful times.

At a time in which you are everyone’s making a ton of money, it might make more money because it’s very successful in successful times. However, trade‑off is that funds like that tend not to perform well, not as well, I’m just saying not perform well at all in downtimes.

What I see as a problem is often this is performance chasing where people will hop from one mutual fund to the next, when all of the research suggests that there is almost no indication, no indication whatsoever whether a mutual fund that has performed well in the last three months, in the last year, in the last three years will perform well this year or next year.

Past performance is not an indication of future returns. By the way, that I just said out there is a disclaimer that’s on every one of these commercials. Past performance is not an indication of future returns. We don’t think it works but people will tend to move around from one mutual fund to another mutual fund based on prior performance.

If you can figure out if that fits with your philosophy, if you start to investigate more about mutual funds, you go back to that old favorite of mine, which is expense ratios.

Many times being involved in actively managed funds means higher expenses because people who are in actively managed funds are chasing after what might be the next best performing investment. That has transactional costs.

Those have costs to get in and out of positions. Most academic research on the concept of investing has concluded that investing is for the long haul, not for the short‑term.

People who actively trade tend not to perform any better than people in a buy and hold scenario, or in a more passively invested strategy. That’s information that you should take as part of any investment strategy that you’d sign on to figure out where am I going with this.

When you look at owning more than one mutual fund, you’ve got to really understand what is available to you and what your goal is. I’ll give you another example. There were mutual funds that are what we call socially responsible investment, SRI.

If that’s something that you believe in, if you believe that your money should speak as loudly as your convictions in what you invest in, you’re going to want to be looking for socially responsible investing. Not every fund family has that as an option.

If you look at Vanguard, it’s great at low‑cost index funds, but you’re not going to find a socially responsible investing platform off of that, and you would have to go somewhere else. When you go somewhere else, you’ll look at the trade‑offs between staying with that company versus one that doesn’t offer it.

You have to do your research off of these different options. Here we get probably the hardest part of choosing all of this. I think there are about 9,500 different mutual funds. In addition to that, there are any number of ETFs, which are like mutual funds, except they don’t have as much in terms of operating expenses.

There are ways of owning lots of securities with one investment or two investments, lots of them. If you wanted to be a responsible investor, you would be researching all of them to try to make sure that what you picked really matched what you needed. That’s just on the investment side.

When it comes to strategy for accumulation or decumulation in retirement, you have to understand timing and when to come in and out of them. If you just wanted to pick mutual funds, you can do that based on the research and probably should.

Here’s the nice thing, you can get slightly better performance and really knowing this versus picking the strategy that works this long‑term passive investing, owning as much of the market as you possibly can. You can get that at that level without having to go to the deeper level of research.

Many times there’s an advantage in the…Then we get to whether or not you should be working with an advisor for this. Is this something that you need to be doing in order to get better returns, or better investment, or better just life circumstances? How you get through retirement?

Of course, I’m going to say the answer is yes, because I am an advisor. I think the academic research also says yes. It says that, in fact, it is better if you go ahead and work with an advisors, better returns off of it overall, and get a better result.

To the issue of mutual funds in selecting them, things that you should probably avoid are chasing performance, even though that’s what most people, most funds essentially advertise on. They advertise on the idea that their past performance is some form of an indication of what their future returns are going to look like.

We don’t have a lot of other metrics for that unless you’re looking at past performance beyond the more recent time and looking at them way out in the future. Way out in the future, like way out in the past, like 10, 15 years and say, “Has it done better than its benchmark,” which might be the entire market or the portfolio off of it.

If you go with that philosophy, you go with the philosophy that says, “Try to get as much of the market as I possibly can,” it’s likely that you should select a mutual fund, a family of funds. In our world, it really isn’t too much advantage when we’ve researched this. There’s not too much advantage changing from that, especially if it’s a smart mutual fund family.

If you’re designing a portfolio, and you can select mutual funds that will serve the purpose of your investing and you can do so while meeting all of the other things that you should be looking at, like expense ratios and whether or not passively traded, actively traded, it might be worth having more than one fund family.

I’ll tell you in our portfolio, we’ve got our main fund family, which is called Dimensional Fund Advisors or DFM. Then we have a couple of Vanguard because the Vanguard ones are bond funds. We don’t think that we get a ton of advantage going with a different family for what we need that investment.

Our model portfolios include those. You might arrive at a similar conclusion having more than one but tons and tons, probably not, and only the highest performers, probably not either. You really do risk a lot in that, especially since it’s been proven that these people don’t keep up their track record from the past.

Anyway, hope this topic has been enlightening for you. Mutual funds is a big one. It took a lot of news and press earlier, as has fallen by the wayside for any favor of ETFs, but there’s some risk on ETF. In fact, why don’t do a show in the future on that? We’ll talk about ETFs and what they are and why you should be wary of them in some cases depending on what’s being sold. We’ll talk about that.

Any comments, feel free to send them to feedback at makeitlastradio.com or feel free to email me at my firm Medina Law Group. We’re happy to entertain any questions that you have. It’s not only on this topic but for future shows.

I want to remind people if you are interested in what you hear today, and you think other people might be interested too, you might be doing them a great favor if you share this show with them. If you’re listening on the radio, you can point them to the podcast that’s available on iTunes, or on Spotify.

If you are a podcast subscriber, certainly take this. Use your share button on your phone and say, “Hey, listen to this. This was a pretty good one,” and share along the way. We certainly also appreciate any feedback ratings that you can put on places like iTunes and other rating systems that will help other people find us. That’s it for today.

We’ll be back next Saturday. Try to keep this schedule up. Thanks so much again for your indulgence of missing last week. I can’t wait to join you again next week. Have a wonderful Memorial Day weekend. Again, go NLSA Knights and cheering on my kids’ soccer team.

We will catch you next Saturday on “Make It Last” where we help you keep your legal docs in a row and your financial nest eggs secure. I’ll see you next time. Bye‑bye.

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