Think you’re getting bad advice from a financial advisor? Here’s what to watch out for

Choosing a financial advisor is a crucial step toward securing your financial future. But not all advisors are created equal.

While most financial advisors work in your best interest, this isn’t always the case. Some may actually be on the payroll for an insurance company, and earn commission by selling you pricey products you don’t need. Others may simply follow outdated investing principles, engage in risky behavior or lack the experience necessary to provide a well-rounded financial plan.

We’ll delve into the reasons why an advisor might provide bad financial advice and how to avoid those red flags.

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The importance of reliable financial advice

Money impacts nearly every aspect of our lives. So when you receive vague, biased or even flat-out incorrect financial advice, it can have long-lasting ripple effects on your life.

Risky bets inside your investment portfolio can lead to lackluster returns, higher fees and a bigger tax bill. In a worse case scenario, bad investment advice can delay your retirement and derail your other financial goals.

When you hire a financial advisor, you’re trusting that person with the most intimate details of your life. While no advisor can predict the future or make the right investment decision 100% of the time, you want to work with a professional you trust who puts your interests ahead of their own.

Why financial advisors might give bad advice

Before we dive into the types of bad financial advice you should avoid, it’s important to understand why a financial advisor might give subpar recommendations. Not being a fiduciary and lack of experience are the two most common reasons a professional might give you poor financial advice.

A fiduciary duty means the financial advisor is ethically or legally obligated to act in your best interests. Some advisors, however, may not be fiduciaries, which means they may recommend products or strategies that benefit them more than you. Similarly, advisors who earn commissions or fees from selling certain products are working under a conflict of interest, so their advice is biased.

An advisor’s level of experience also impacts their ability to make sound financial recommendations. Novice advisors may lack the knowledge and insights needed to navigate complex financial situations, leading to poor or vague advice. It’s best to look for an advisor with a few years of experience in the financial areas you need help with.

Common examples of bad financial advice

Below are pieces of bad financial advice you might receive from a financial advisor, along with examples of what an advisor should have told you.

Only recommending the hottest investments

Some advisors may encourage investing in trendy, high-risk assets or sectors with the promise of quick gains and tremendous upside. While the allure of rapid growth is tempting, it’s important to remember that what’s popular today might not be profitable tomorrow.

If you’re investing for retirement, allocating large portions of your portfolio to hot stocks or other risky investments can be detrimental. Instead, you should opt for a long-term perspective over chasing short-term trends. A mix of asset classes, including stocks, bonds and alternative investments provides a much more solid foundation for your portfolio.

Downplaying the risks of investments

Minimizing the risks associated with an investment can lead to significant losses. Every investment carries risk, so be wary of an advisor who fails to acknowledge a security’s potential downside.

A reputable advisor will make sure you have a clear understanding of an investment’s risks and rewards. They will provide you with the prospectus and any other information you need to make an informed decision that aligns with your financial goals.

Using your home as part of your investment strategy

Using your home equity as a financial tool can be a double-edged sword. While tapping your home’s equity or using it as leverage may seem like a way to accelerate wealth accumulation, it exposes you to significant risk.

Home equity debt is secured by your home, so if you fail to make payments, your lender can foreclose on it. If home values drop, you could also wind up “under water,” or owing more money on your home than it’s worth.

Your home is a place of security, and jeopardizing it for potential gains is never a good idea. While accessing home equity can be a viable way to access cash for home improvement projects and some other needs, it shouldn’t be used as a way to free up money for investments. A reputable financial advisor shouldn’t recommend this strategy. Instead, explore safer investment options that don’t put your home at risk.

Moving out of stocks as you approach retirement

A long-standing piece of investment advice is investing heavily in stocks when you’re young then shifting to bonds as you approach retirement. While adjusting your portfolio allocation over time is important, abandoning stocks entirely as you near retirement may hinder your ability to outpace inflation and maintain long-term growth.

Bonds can help offset stock market volatility, so they’re an important part of your portfolio. They just shouldn’t make up your entire portfolio. A good financial advisor will help you strike a balance between growth and preservation of capital.

Excessive trading

Some financial advisors may encourage frequent buying and selling of investments in the pursuit of quick gains. However, each trade comes with costs, including fees and capital gains taxes. These expenses can quickly add up and eat into your overall portfolio returns.

Be wary of an advisor who engages in frequent trading because they might be generating commissions at your expense. Excessive trading can also result in selling well-performing stocks too soon while letting losses mount, a practice known as “cutting the flowers and watering the weeds.”

Promoting only actively managed investments

Some financial advisors may push actively managed mutual funds, which come with higher fees and may not outperform lower-cost options, such as passively managed index funds and exchange-traded funds (ETFs).

While actively managed funds have their place, they should be chosen carefully. There will always be a few active funds that outperform their benchmark over the short term, but very few can do so consistently over the long term.

A good financial advisor should be willing to explain why they’ve chosen an active mutual fund instead of a less expensive option. If they don’t readily offer this information, don’t be afraid to ask.

Poor portfolio diversification

Over-concentrating investments in a single asset class or industry can expose you to unnecessary risk. Lack of diversification can leave your portfolio vulnerable to market volatility, supply chain shortages and other industry-specific risks. If you’re heavily invested in construction companies and REITs, for example, your portfolio could nose dive if the housing market crashes.

Look for a financial advisor who understands the importance of spreading your investing dollars across various industries and sectors. It will make your portfolio better equipped to handle the ups and downs of market volatility

Neglecting individual circumstances

Pushing one-size-fits-all recommendations without considering your financial situation can lead to poor outcomes. Your financial journey is unique, and your advisor should tailor their guidance accordingly. Offering generic investment advice is often a tell-tale sign of an inexperienced advisor.

A trustworthy financial advisor takes the time to understand your circumstances, including your financial goals, risk tolerance and time horizon. They should craft a personalized financial plan that aligns with your needs, not impose outdated or vague advice.

Avoiding bad financial advice

One of the best ways to avoid bad financial advice is to ask questions and do your own research if something doesn’t feel right. There are many online educational resources out there, and it never hurts to get a second opinion.

If you’re working with a financial advisor who has given you bad advice, just remember you’re in the driver’s seat. You can always part ways and find a new financial advisor who better meets your needs.

Here are some important tips for choosing a financial advisor:

• Identify your needs: Before you meet with a financial advisor, have a clear understanding of your financial situation and what you hope to achieve.
• Check their credentials, reviews and ask for references: You can research an advisor’s background by using FINRA’s BrokerCheck.
• Make the most of the initial consultation: Use the first meeting to gauge an advisor’s investment philosophy and personality to see if it aligns with your own.
• Understand their fee structure: Ask how the advisor is compensated. Whether it’s a flat fee, hourly rate or based on assets under management, make sure it fits with your budget. Avoid commission-based advisors.

Bottom line

While most financial advisors have your best interests at heart, it’s important to recognize red flags that could signal bad investing advice. It can help you avoid common pitfalls, such as chasing hot investments or neglecting diversification. Remember, your financial journey is unique, and a trustworthy advisor will tailor their guidance to your needs without putting your money at risk.