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MZ Capital Insights

Financial Advisor Licenses: Series 65 vs Series 7

When I am approached by a prospective client, the question they always ask without fail is “Are you properly licensed?”

This is actually the wrong question. The right question should be, “Which license do you have?”

Generally, there are two types of licenses for people who call themselves a “financial advisor.” People who passed the series 65 test and people who passed the series 7 test.The nature of these two licenses are as far apart as heaven and earth.

Series 7 is a securities license. People who have passed this test can legally be a broker.They are actually prohibited by law to give financial advice, except incidental to the financial products they are selling.

A financial advisor with a series 7 license can receive third party payments like kickbacks, commissions etc in conjunction with the products they sell you. They are not required to put your interest first as they are not your fiduciary. Legally they abide by a much lenient “suitability standard.” That is, if they think the product is suitable for you, irrespective of the cost, they are legally off the hook.

All of Morgan Stanley, Merrill Lynch and other Wall Street firms’ financial advisors are required to pass the series 7 license.

Series 65 is an advisor license. People who have passed this test are legally called registered investment advisors or RIAs. An RIA’s compensation is in the form of fees paid directly by the client. He or She is prohibited to receive any third party payment unless disclosed to and approved by the client first.

When searching for a financial advisor, it’s crucial to find out what licensure he or she has. Don’t use a broker as your financial advisor unless you’re in the habit of letting you friendly neighborhood used car salesman hand pick your vehicle purchases.

Chasing Winners is NOT a Winning Strategy

Remember When Everybody Wanted to Be in Gold?

At the turn of the year, a few clients asked me a very good question: “Why my portfolio is not doing as well as the S&P 500 index? Shouldn’t we invest more in US stocks?”

The answer is very simple, US equity is only one component of the portfolio, it happened to do the best last year. The best component of the portfolio will always do better than the whole portfolio. That does not mean we should not diversify.

In fact, I got similar questions every year. Four years ago, it was like “Why didn’t we invest more in emerging markets? there’s no way the US market will do better than emerging markets.” Two years ago, it was like “Why shouldn’t we put everything in gold? all of my friends are investing in gold.”

It’s all too human to chase winners. But chasing winners (be it US equity, or emerging markets, or gold) have proven to be a losing strategy over the long run. I wrote an article about that four years ago, the idea is still very valid today.

The article is base on Black Rock’s twenty year asset class return table.

I compare three strategies: momentum vs contrarian vs diversified. With the momentum strategy you always invest in the best performing asset class last year; with the contrarian strategy, you always invest in the worst performing asset class last year; with the diversified strategy, you just stay diversified and disciplined.

It turns out the momentum strategy is the worst by a mile! Go read the article by yourself.

If you go to the Morningstar website to do research on a very popular fund, the Vanguard S&P 500 Index Fund or VFINX, you may find this information after some digging around:


If you go to the Morningstar website to do research on a very popular fund, the Vanguard S&P 500 Index Fund or VFINX, you may find this information after some digging around:

The Investment Return is basically what the fund produces. (If the fund is a S&P 500 Index fund, then its investment return is basically synonymous to what the market produces.) The Investor Return is what the average fund investor receives. So why on earth would the typical investor get less than half of what the fund produces?

The answer is actually pretty simple: most investors just don’t have the mental wherewithal to stay in the market when it drops. They pulled out at the bottom of the market, thereby missing much of the rebound rally in 2009. See this fund flow chart below.


This is where an experienced financial adviser can help. Let’s look at the fund vs. investor return of DFQTX, a DFA fund that is only available to investors through a DFA authorized adviser like myself.


Note that unlike VFINX investors, the typical DFQTX investor has higher investor return than fund return. Why? The answer to this question is also very simple:  under the guidance of a DFA authorized adviser, the typical DFQTX investor was able to rebalance his portfolio thereby loading up on cheap equity when the market was giving a greater than 50% discount (which is a better way to view a market drop.)

I rarely like to talk about the value of an experienced fiduciary adviser. But here it is – I can’t even hide it: over the past ten years, the investor return difference is 6.62% a year when the investors have a DFA authorized adviser!