Investment Management Isn't A Commodity (EP.256)

0:02Peter:We all need to make smart decisions with our money. The Long-Term Investor podcast shows you how by distilling complex financial matters into easily digestible lessons. And now, here's your host, Chief Investment Officer at PlanCorp and the author of Making Money Simple, Peter Lazaroff. Welcome back to The Long-Term Investor. I have to admit, I am a little bit worried this episode is going to annoy some people, but I just feel so strongly that investment management is not a commodity. And I understand exactly why smart people think it is. When you look at the history of investment advice, it's easy to see how so many people were trained to think that way.

0:45It started with stockbrokers selling individual ideas, then came actively managed mutual funds, which felt more professional because you were not just buying one stock pitch anymore, but you were hiring a manager. Then the conversation matured into diversification and asset allocation. Then advisors began outsourcing model portfolios. Then robo-advisors automated much of that same allocation work at an even lower cost. And eventually, for a lot of investors, the message became, just own a few low-cost ETFs and stop overthinking it. And to be fair, a lot of that evolution really was better for investors.

1:23Lower costs, broader diversification, and less dependence on expensive product sales. So let me be clear. I am not here to defend the old pitch that you should pay a professional because they're going to outsmart the market by picking the right mutual funds. That argument deserved to lose. I'm here to say that basic market exposure has become cheap and standardized, but that does not mean investment management itself is a commodity. That's the key distinction in this episode. The commodity is the basic recipe. The value is in implementing a strategy that is customized and personalized to your specific needs.

2:02So if you are a do-it-yourself investor with real complexity in your financial life, there is a good chance you've underestimated what the job actually is. Now, I think some people think of a complexity in terms of asset levels. Like I have to have some very high asset level to consider myself complex. I don't think that's true. I think complexity starts the moment you have more than one type of account. So if you have a 401k and a taxable account, well, suddenly now asset location matters. Add in a IRA and a Roth IRA and a brokerage account, now tax efficiency and future withdrawals matter too.

2:40Then what if you have company stock or RSUs or stock options? Well, now portfolio construction has to account for the fact that your paycheck, future compensation, and investment exposure may all be tied to the same company. Or this applies to a lot of people. Maybe you have a low basis stock position or an old fund with a large embedded gain that you don't really want to own anymore, but you don't want to realize the taxes. Well, now you have a transition problem, not just an allocation problem. And if you're a business owner, you maybe have some pre-liquidity portfolio design questions and some tax planning opportunities because how you position the rest of your balance sheet before the sale.

3:18So yes, complexity often starts with multiple account types, but over time, it usually grows with success, more assets, more gains, more tax considerations, and more decisions that affect each other. And one reason that complexity gets underestimated, in my opinion, is that most investors don't have a clear way to measure whether the process they're using is actually working. And so in my experience, and I've talked about this before, many do-it-yourself investors, they know their balance better than their performance. They know when the number went up, whether it's in percentage terms or dollar terms, but that is not the same thing as knowing performance.

3:57And I wanna be fair here because many do-it-yourself investors are doing a lot of the right things. They're saving consistently, they're keeping costs low, they're staying invested. The problem isn't that they're careless, the problem is that most of the tools people use are built to make investing feel simple and reassuring. not to give them the rigorous household level view of performance. So your account balance, sure, it tells you how much money you have, but that is not the same thing as understanding your time-weighted return. You're sometimes able to find your money-weighted return, also known as the internal rate of return, but the time-weighted return is a number you need to calculate to better gauge whether your investment process is working.

4:39Now, we could probably do an entire episode on time-weighted return, but I'm not sure that would even really matter because calculating in a spreadsheet on your own is not really a realistic endeavor. So instead, I will just suggest that at a minimum, a serious investment process should have five things. You should be able to know how the strategy performed, how your actual dollars performed, what benchmarks matter, how the household is doing as a whole, and for many investors, what the after-tax experience looks like. Most of the do-it-yourself investors I've spoken with have built meaningful wealth, which is a real accomplishment, but they often do not have a clear sense for whether the portfolio is being managed as well as it could be.

5:23And once performance is not being measured clearly, it becomes really easy to be overconfident about the quality of the process and believe in the idea that investment management is a commodity. So what does non-commodity investment management actually include? Well, I think it comes in two layers, customization and personalization. Customization is the foundation. It means making the portfolio fit the household you actually have, not the average investor in a model. And at a basic level, serious investment management customize a portfolio in a few ways. First, it decides not just the asset allocation, but where assets belong.

6:04That is asset location, not just what you own, but where you own it. Second, it manages the portfolio over time with a real process. That includes systematic rebalancing, not just when you remember or not when you get nervous or not when you happen to log in, but according to a disciplined approach. And it also includes tax-loss harvesting done consistently, not just when it's convenient. Third, it handles transitions well. And I think that's really important because that includes things like withdrawal sequencing, especially for retirees or near retirees deciding which account should fund the next dollar spending.

6:40But it can also include concentrated position management, or maybe a plan for legacy positions with large embedded gains. A fourth aspect is that it measures results clearly. I already kind of harped on this, but performance reporting that actually lets you assess how well your strategies and your overall household is doing versus relevant benchmarks, that's a serious investment management customization. And so that's the baseline. You need to know where assets go, how the portfolio is being managed over time, how transitions are handled, and how results are measured. But these days, investment management can go a step further into personalization.

7:17So to me, personalization is deciding when a more tailored tool is actually worth using. So that might include SMAs, direct indexing, specialized diversifying strategies, or options-based strategies. And unlike these broad market building blocks, these tools have a lot more moving parts. They have more manager discretion and a lot more room for both value and mistakes. But still, so many investors talk as if the only real decision is which index fund to buy. And I mean, I guess I sort of understand why. I'm a big fan of simplicity. But technology and lower costs have made personalization available far more than most people realize.

8:01And for the right investor, it really can matter. But let me put a big caveat there, a big but none of that works without due diligence. So once you move beyond the commoditized portfolio, someone has to do the ongoing work. You have to research managers and strategies. You have to review fees. You have to look at the tax implications and the implementation. You have to monitor the personnel changes and the style drift. And you have to keep reassessing whether the solution still fits the client or the investor or the individual as markets change and as that investor's life changes. And so I think it's obvious that an individual can't do all those things to the quality of a professional.

8:43But when firms don't have the time or scale or expertise to do that work themselves, they'll often outsource the judgment. And when that ongoing work is missing, what gets called investment management really just starts to turn into what I might call portfolio distribution. So this is actually one of the biggest practical problems in investment management today, and it's that many advisors do not actually have a real investment function. What they have is an outsourced model. Outsourcing is not automatically bad. A model portfolio can be a useful tool, but a model is not the same thing as an investment process.

9:23And outsourced models come with two risks that I just don't think get talked about enough. The first is conflict of interest. So if the model comes from an asset manager that also manufactures the underlying funds, there is an obvious incentive to use their own products. Now, that does not automatically make the model bad, but it absolutely means that the advisor and the client should be asking harder questions. In fact, I think a lot of people don't realize that their advisors are using outsourced models in the first place, so harder questions is probably a requirement at this point. The second risk is staleness.

9:59So even if a model was reasonable when it was built, that does not mean it is being revisited with the rigor it deserves because managers change, strategies drift, costs change, tax realities change, markets change. If nobody is doing regular due diligence or reviewing the assumptions or asking whether the model still fits, then what looks like investment management may really just be a static allocation on autopilot. You can tell that I'm getting a little heated here. And I know that in many cases, someone might be buying a really good financial planning experience with a lighter investment layer, and that can still be a relevant service.

10:40But it is not the same thing as full service investment management. And for investors earlier in their careers, or for people with a super simple portfolio, like one account, maybe a couple hundred thousand dollars and very little tax complexity, a commoditized investing experience can be perfectly fine. And that might mean a robo-advisor, a basic model portfolio, a flat fee planning relationship with a lighter investment layer, or what I would consider to be a discount AUM arrangement. And the trade-off is usually less customization, less tax management, less due diligence, less accountability, less opportunity for personalization.

11:20And again, that's perfectly fine. There's a place in the market for that, but that trade-off becomes so much more important later in life when the portfolio has to work across multiple accounts, in tax constraints, in embedded gains, in business interests, or concentrated positions. And that's generally why I'm skeptical of investments from a flat fee or a discount AUM advisor. Not because the lower fees are bad, but because lower fees often mean a thinner investment function, and that usually means a more commoditized investment offering. So let me close with this. I am not saying every investor needs an advisor, and I am not saying a simple low-cost portfolio is bad.

12:02I'm saying something more specific. Investment exposure may be a commodity. Excellent investment management is not. And if your financial life has grown beyond a couple of simple accounts, or if there's a real tax complexity, a concentration risk, or a growing need for coordination, then it may be time to ask better questions, not just what do I own. Better questions are who are making the decisions and what does that process look like? How are performance and taxes being measured? How is the portfolio managed over time and who is accountable for all of it? If this resonates, take those questions to your advisor.

12:39And if you don't have someone who can answer them clearly, it may be time to get a second opinion because the biggest risk probably isn't doing something obviously wrong. It's more likely doing something that's okay for a long time so that you never stop to ask whether okay is actually good enough. As always, thanks for listening. And until next time to Long-Term Investing.

13:06Peter:Thanks for listening to the Long-Term Investor Podcast. To access free financial resources and submit questions to be answered on the show? Visit thelongterminvestor.com. Peter Lazaroff is an employee of PlanCorp and BrightPlan. All opinions expressed by Peter and any podcast guests are solely their own opinions and do not reflect the opinions of PlanCorp or BrightPlan. This podcast is for informational purposes only and should not be relied upon as a basis for investment decisions. Clients of PlanCorp and BrightPlan may maintain positions and the securities discussed in this podcast.