Dave Butler: Evidence and advice make a powerful combination
Posted by Robin Powell on July 6, 2017
A question I’m asked all the time is, Does an evidence-based investor need a financial adviser? The simple answer is No, they don’t. That said, I firmly believe that everyone can benefit from having a good financial adviser, and there comes a point in most people’s lives when having one is essential.
This is a view shared by Dimensional Fund Advisors, a Texas-based firm that I’ve written about many times before on this blog. More than any other asset manager, DFA bases everything it does on peer-reviewed, time-tested academic evidence.
In this exclusive interview, Dimensional’s joint-CEO Dave Butler explains how, in his view, it’s the combination of an evidence-based investment strategy and an independent adviser that gives you the very best chance of achieving your goals.
A distinguished basketball player in his youth, Dave joined DFA in 1995. He leads a worldwide team of regional directors and client services professionals who apply Dimensional’s strategies and resources to help advisers provide investors with an outstanding client experience.
How essential is it to have an adviser?
Our perspective on the idea of having an adviser has been at the core of our business for 25 years or so. When we think of the great investor experience, the adviser is central to that. Combining what we do at Dimensional, which is efficient access to the capital markets, with the advice of an independent adviser, gives the client the best shot at having a great investor experience.
What are the dangers of trying to manage without an adviser?
There are a lot of different aspects to the adviser’s rôle. There are the wealth management activities that advisers provide, that are built around planning and taxes, charitable giving and so forth. But there’s also the aspect of discipline. We all have reactions to the capital markets going up and going down. I have those reactions myself. The behavioural aspect is vitally important to the success of the client. The adviser does a provide a buffer. They have an intimate knowledge and understanding of the client and the client’s situation, and they understand how the client reacts towards risk. In times of stress, they provide a sounding board that allows the client to stay with the long-term view that they built when they first started working together. We see all kinds of data and research on the fact that clients do not get the kind of returns that we see at the capital market level. To close that gap, it’s vitally important to have an adviser participating in the process.
How should people go about choosing a good adviser?
That’s a great question. People need to have a good dialogue with an adviser. They have to make their own decision as to how sensible the adviser is on various topics. To me there are some very simple capital market tenets that bode well for any client — simple themes like diversification, keeping your costs low, being tax-efficient and transaction-efficient. So when a client starts to speak to an adviser about how they invest their portfolio, those types of themes should come out immediately. If they don’t, that’s an adviser you probably want to be very careful of.
The other aspect we’ve talked about hundreds of times is this idea of looking into a crystal ball and predicting the future. So if an adviser comes to you and says, “We’ve got this idea about where inflation is headed, or where the market is going to go in Japan, or where interest rates are going to go next year,” you need to realise that all of those things are predictions about the future. What we do know, from an evidence-based perspective, is that making predictions about the future of the capital markets is a very, very tough game to play. If clients hear those kinds of projections, they should be very, very careful.
What exactly do you mean by an investment policy statement? And why is it so important to have one?
An investment policy statement is a decision as to how your capital assets will be allocated for a long period of time. Risk is considered, expected return is considered, and so is your time horizon. Is the client open to global diversification? Do they want to tilt towards small-cap or value stocks, which have a higher expected return? Those are really the questions the adviser should ask. When I got in this business 25 years ago, the adviser I had didn’t ask those questions. They asked about whether I wanted to buy or sell particular stocks.
It’s also important that the adviser lays out the expectation of the different parts of the portfolio, so the client has an understanding of what the premium has been historically, and what the volatility has been around that premium as well. It’s really about getting a sense of what the client’s reaction would be to different market scenarios that might happen in the future. And if they sense that the client is a bit conservative, they have to be careful not to put too much equity in the portfolio versus fixed income. It’s the same idea with small-cap and value. There are premiums there, but there’s also volatility around those premiums that advisers and clients need to be aware of.
Why is on-going support necessary once the client’s portfolio is in place?
Well, you just don’t know what the situation will be going forward. I wrote an article about two years ago called Free Throws, as a former basketball player. When you think about shooting a free throw in a game, the game might be tied 61-61 and the crowd’s yelling and screaming, and you actually have to go up and make a free throw. As an athlete you’ve practised that free throw process over and over again. There’s a repetition to that process. Personally, I’d go up to the line, and there’s usually nail on the floor, I’d put my toe on the nail, I’d take two dribbles, I’d bounce my knees twice, and look at the back of the rim, take a deep breath and shoot in a way that I’d practised many times. The same concept applies to the capital markets. If the adviser and the client are able to build a portfolio that makes sense for the client, and an investment policy statement that’s agreed to in advance, then when that environment comes the client is much better able to handle whatever the market throws at them. So for me it’s the habit, it’s the repetition, that promotes good behaviour and allows the client to stay in the game long-term.