Edward Jones: A Financial Reputation That Exceeds Reality

Edward Jones enjoys an excellent reputation among its clients. It wins award after award for great service, and managed to expand beyond its humble origins in Des Peres, MO to build thousands of branches across the nation that offer individually tailored solutions for people that want to have a personal relationship with someone as they invest. The comfort that many investors feel with their Edward Jones advisor, however, is unwarranted.

As is often the case, the devil lurks in the details. Or as Edward Jones likes to call it, their “preferred product partners”, which we will get to in a minute.

If you hand over your money to Edward Jones, you will often read documents that mention you will be paying between 1.0% and 1.5% annually in expense fees, depending on the size of your account. If you have a million-dollar estate, you would expect Edward Jones to receive $10,000 in compensation per year for investing in your behalf. Most people will leave their meeting with their Edward Jones advisor believing that is all they are required to pay in fees.

When your meeting with an Edward Jones representative comes to an end, you will be told that you should check online to find out more information about your account. Most people, daunted by the amount of paperwork they had just signed, have a low probability of actually doing this. Just as you hand your car off to the mechanic when you don’t want to deal with the radiator, you give your money to the investment firm that reports a client satisfaction rating of 925 out of 100 during the recent polling. You think you have nothing to worry about you—you’ve entrusted the right people to steer your compounding ship so you can go about your life doing as you please.

The issue is that the glowing reputation received by Edward Jones does not match the reality of the care (or more specifically, lack thereof) that you actually receive when you entrust your money to them.

On the company website, there is a link called “Revenue Sharing Disclosure.” The first paragraph introduces you to the concept of “preferred product partners” and includes this charming line: “We want you to understand that Edward Jones’ receipt of revenue sharing payments creates a potential conflict of interest in the form of an additional financial incentive and financial benefit to the firm, its financial advisors and equity owners in connection with the sale of products from these product partners.” They want you to understand this fact so much that they do not mention it to you in face-to-face meetings and instead leave it to nerdy researchers to excavate from the website. Then, Edward Jones gives you a neat little chart documenting the kickbacks revenue sharing arrangements so you know that Edward Jones collected $49 million last year to steer clients to the American Fund family.

I don’t think people fully appreciate (1) how much Edward Jones relies on these mutual fund bribes, and (2) how much this affects your long-term compounding.

A lot of people initially see the 1% to 1.5% fees that eat up thousands of dollars from their accounts each year, and assume that this is how Edward Jones earns the bulk of its profits. But that’s not the case—it’s the network of mutual funds and annuities that Edward Jones advisors get paid to steer your money towards. They made $6.3 billion last year in net profits. Over $4.8 billion of that came from kickback fees from the annuity and mutual fund companies, and the rest came from the direct expense fees that new clients pay to their Edward Jones advisors.

The interaction between the mutual fund fees from these kickbacks and the other weevils sapping your investment harvest can tear asunder your retirement plans. Think of it like this. You often hear that the stock market returns 10% for the long haul. Forget for a moment that almost every Edward Jones “preferred partner” fund has long-term returns in the 6% to 8.5% range, and let’s assume a best-case scenario. You are wealthy enough to be in the million-dollar fee bracket, and you get steered into a fund that actually delivers 10% returns. What does your purchasing power gain actually look like?

First, you have to pay the 1% Edward Jones fee (which would be 1.5% if you had a $200,000 account.) This would be somewhere around $10,400, as Edward Jones not only collects a 1% fee on the assets you gave them under management but also collect 1% of the money created through the growth of the account as well.

Another $10,000 goes towards these revenue-sharing kickback arrangements, with Edward Jones collecting $2,500-$5,000 while the mutual fund companies like the American Funds collect the rest.

And then there is the matter of inflation and taxes. The typical Edward Jones portfolio has an estimated holding period of 74%. A 100% portfolio turnover rate means the company buys and sells brand new stocks throughout the entire year—you start the year with Exxon, and it with Royal Dutch Shell, so to speak. Edward Jones will hold a typical stock for about fifteen months. This triggers all sorts of capital gains taxes in addition to the taxes required from the dividend payments. Edward Jones reports a 31% blended tax rate on the gain if you are investing through a taxable account.

I guess the good news, if you can call that, is that the company removed $20,400 in fees so you don’t have to pay taxes on the $100,000 expected gain but rather the $79,600 that you actually saw your portfolio grow. The churning of the portfolio chosen by your representative (and the investors in the funds therein) matters. If your Berkshire Hathaway stock goes up 7.96% in a year, that is your actual gain. You have 7.96% more wealth compounding for next year if you do absolutely nothing.

But a typical Edward Jones client has to deal with the churn upon churn—your advisor may switch you into and out of certain funds, and the managers of the funds themselves may buy and sell certain stocks. This cocktail is where the 31% blended tax rate comes from, as short-term capital gains taxed at the ordinary income rate interact with the 23.8% long-term capital gains and dividend tax. By the end of the year, that $79,600 is only $54,924. This churn could be mitigated towards 23.8% if Edward Jones had a policy of holding all purchases for at least a year, although that wouldn’t solve the problem entirely because the managers of the chosen mutual funds would still be churning.

And then, of course, there is the 3.5% inflation in a typical year which is beyond the control of the Edward Jones manager but still affects your purchasing power. Your million-dollar portfolio needed to gain at least $35,000 in a typical year to buy as many goods and services as it did the previous year. That knocks the $54,924 down to a $19,924 purchasing power gain for the year.

That’s terrible—you hear a million-dollar portfolio gaining 10% and immediately think of $100,000 being added to the value of the account, but that is not the case at all. Sure, the inflation component affects purchasing power but is not a consequence of Edward Jones specifically. The other three: fees, more fees, and taxes, are a result of Edward Jones management either directly or indirectly.

The initial 1.0% to 1.5% fee would be tolerable if Edward Jones was taking your money, putting it into a good portfolio of stocks and bonds that mirrored something like the Vanguard Wellington Fund. They would be good stewards of your assets, deserving the earned fees. But more times than not, they turn around and outsource the investment selection process to mutual funds that pay them to send your hard-earned dollars their way, and there is a terrible incentive to churn that results in a way-too-high 31% blended tax rate. The incentive structure is set up so that long-term Edward Jones clients end up with table scraps here and there, never earning the stock market feast that would result from spending four decades adding to something as pedestrian as the S&P 500 Index Fund.

Edward Jones got caught doing this stuff by the SEC in 2004. They had to pay $75 million. Instead of abandoning the practice, Edward Jones negotiated an agreement with the SEC to disclose the practice on its website rather than abandon it altogether. I certainly understand why Edward Jones wanted to keep the practice going—it would lose over half of its profits by terminating the arrangement. But it is a failure of Congress to permit this practice to continue, in light of the other practices that it forbade in the investment industry.

Sure, there are some clients that only pay 1%, have an Edward Jones advisor that beats the market by selecting stocks, and truly do build wealth. But that is not the typical Edward Jones client experience. The average client gets his money shoved into mutual funds that trail the S&P 500, and then gets charged a barrage of fees (only half of which he explicitly knows) that siphon off his potential wealth. It’s something worthy of keeping in your case study files—I’ve encountered few other companies that enjoy such an excellent reputation in excess of what the underlying service reality is for the customers.

Click here to view:

The Edward Jones Revenue Sharing Arrangement

The 2004 SEC Fine of $75 Million Levied Upon Edward Jones