If you are an Oregon court appointed fiduciary the writing is on the wall. The days of hiring stock brokers to manage money for the disabled are coming to an end. The Department of Labor has proposed a fiduciary standard for investment advisors dealing with retirement funds. Elizabeth Warren is tweeting, and a new law in Oregon requires court appointed conservators to disclose every year the full fees paid for asset managment. Paying full-service commissioned financial advisors from the funds of the helpless may not yet be unethical, but the day is not far off when it will be.
Index funds--funds invested across a market and managed by a computer--have the potential to do to retail stock brokers what the internet did to travel agencies. The only question for an Oregon fiduciary is whether she will dive into index funds or be dragged in. This post if for those who would rather make the move voluntarily.
(For my post on index funds and conservatorships generally, go here.)
An Oregon trustee or conservator is bound by the Prudent Investor Rule. The rule is common sense. It requires the fiduciary to match the risk in the investment to the risk tolerance of the beneficiary and potential heirs. At its very basic this means diversification. Mutual funds by their nature are diversified and an investment account containing different kinds of mutual funds is doubly so. Index funds are a type of mutual fund in which the money is invested across a market and managed by a computer instead of individuals. The management fees for index funds are smaller than those charged by actively managed funds. The biggest vendor of index funds is Vanguard. I will use the company in this post, but index funds from other vendors work equally well.
Let's say a conservator has an eighty-six year old disabled male with care costs of $2,000 a month more than his monthly income. He has $150,000 to manage, and a life expectancy of 5.7 years. If he dies on schedule he will need nearly every penny he has to pay care costs and related expenses. He has little if any tolerance for risk.
So Google a conservative index investment at Vanguard. Let's say you like the Wellesley Income Fund. It is safe and diversified (mostly bonds, some stocks). It tends to produce 2.62%, and the charge for management is 0.23% of the principal. On $150,000 that is $3,930 a year of income for $345 in fees. Even more conservative is the Vanguard Intermediate-Term Government Bond Index which collects government bonds. It has an estimated return of 1.33% and an expense of .1%. The income it $1,843 on expenses of $151. (You can check these at the FINRA Fund Analyzer).
Of course a fiduciary could park the money in a Wells Fargo Money Market account at .03% and make a whopping $45. Or the fiduciary could send the money to Fidelity Advisor Asset Manager® 20% Fund Class A (FTAWX), a randomly chosen managed fund with a ten year history of return at 3.8% and a front end load. The fiduciary would have fees and sales charges of $6,484 for a first year loss of $1,006. You can go to the FINRA site and do the math.
Even with no-load funds, the costs of management don't pan out. A Thrivent Conservative Asset Allocation Fund (TCAIX) with no load and a return of 3% has charges of $1062 (.7%) while the Vanguard Wellesley fund has Charges of $395 (.23%). Over the short life of our example, that is a $5,000 difference, just from management costs. Thrivent advertises on television that its funds are not managed by robots. I wonder if they also manually add up large numbers because they just can't trust those new fangled calculators.
The investment choices, even in mutual funds, are daunting, and can scare a fiduciary into simply paying the freight and having a commissioned money manager make the choices for him. The person who suffers from this timidity, however, it the disabled beneficiary. The professional management comes at such a hefty cost that it wipes out the benefit of the expertise. Additionally, there are online tools at Vanguard and other places that make the process fairly easy. Simply plug in the factors that contribute to risk tolerance and let the computers do the work. If you want online help with selecting index funds you can look at Betterment or Wealthfront, although neither are really necessary.
Another hurdle to using index funds is having to actually open an account without a hand-holding and socially skilled financial adviser to do it for you. For a Vanguard account, the process starts with this form. The form is largely self explanatory, but I can offer these tips.
- On page one, check the box indicating that the application is by a guardian.
- On page 4 enter the information for the protected person using the address of the conservator.
- On page 5 enter the information for the conservator. You do have to enter the conservator's tax ID number. This is for identification only and transactions will not affect the personal finances of the conservator.
- When sending the paperwork include a certified copy of the letters of conservatorship that are less than 90 days old and a letter explaining that Oregon courts (like California and other states) do not use a raised seal.
The form has areas to fill in the index funds you want to buy and instructions for funding the account from an existing bank account. This will probably be the conservatorship account.
If the protected person's money is already at with a commissioned adviser and invested heavily in managed funds, you may be able to get the broker to sell and reinvest in index funds. If the broker balks at this, as she probably will, you can move the securities from the existing broker to a Vanguard brokerage using this form. Once the form is filled out, your signature must be guaranteed with a Medallion Stamp. I have written about Medallion Stamps here. Once moved, it is a simple matter to sell the managed funds and replace them with appropriate index funds using the Vanguard web page.
Index funds chosen after consideration of the risk tolerance of the protected person (almost always very low) provide as close to a safe haven for a conservator as one could find. The investments are diversified because they are mutual funds. Unless the conservator made a huge mistake in evaluating risk tolerance, the investments will easily meet the requirements of the prudent investor rule. The protected person is protected and the professional conservator who has to report all management fees will not have to wince when he or she reports to the court how much of the protected person's money went to the brokerage house.