One of the hallmarks of being an adult is the ability to make decisions and handle the outcome of those decisions. Another is being able to recognize that you may not have all of the data or knowledge required to make an informed decision and need to find that by asking more knowledgeable people and doing research of your own.
It’s important to remember when asking people to share their knowledge, that they are just like us: they have thoughts, feelings, motives, and biases too. These shape the advice they give and should be accounted for when considering whether to follow their advice.
Motivation is a driving factor that causes people to think or act in certain ways. Forms of motivation can be intrinsic (coming from inside a person’s mind; a feeling of joy) or external (material gain in the form of money, items, or services).
Money is the most effective motivating factor for the majority of people. It’s what motivates us to go to work everyday, choose a specific type of investment, and compels us to play the lottery. It underpins our entire capitalistic society so it’s no surprise how effective it is an external motivator.
Compensation (money paid for work done) generally comes in the form of a set salary (hourly or annually) or a commission. A commission is compensation provided when a specific goal or task is completed, usually tied to meeting a sales target (flat amount paid when met) or as a percentage of the total sale amount.
A salaried person may not be as motivated to do additional tasks outside of their normal responsibilities because they won’t be compensated for that extra work. On the other hand, someone working on commission will, be as their compensation is directly tied to the amount of work they do – more work, more money.
Salespeople in Disguise
Commission-based compensation dominates sales professions as it directly motivates the salesperson to sell more.
Usually this isn’t a big problem for most customers as they can figure out who is working on commission and whether the salesperson is recommending something that they actually need or something that will make them the most commission (e.g. a furniture salesperson recommending an entire living room set when you only need a couch).
However, problems can arise when you aren’t aware if someone is working on commission (financial advisors) or the potential sale is very large (real estate transactions paid for with your money). This can cause a conflict between your interests or needs and those of the salesperson.
In Canada we have financial advisers and financial advisors (that’s not a typo; the difference is one letter). Advisers have to be licensed and act as a fiduciary (one who puts clients’ interests first) while advisors are not necessarily licensed and are more often salespeople employed by a financial institution to sell the products that yield the institution more money through commissions or higher fees.
This doesn’t mean that their recommendations won’t fit your needs, only that the recommendation itself may have been made for a reason other than because it’s the best one for your specific needs. Both fund A and B fit your risk tolerance and investment horizon but one is from the bank’s investment group, carries a higher fee, and earns the advisor a $2,000 commission upon an investment from you.
If they are not required to act as a fiduciary, which fund do you think they are more motivated to recommend to you?
Buying a house is easily the largest transaction in most people’s lives and many (if not all) are carried out with the help of a realtor.
Realtors work on commission and are usually paid 2-2.5% of the final sale price so they are motivated to make sure the property sells for the highest price. As someone selling a house, this seems great; more money coming to you. As a buyer though, you may be pressured by your realtor to offer a lot more than you’re comfortable with just to potentially secure the highest bid.
Again, even though their recommendation of a specific property or offer price may fit your needs, they may be doing so primarily because it will yield them a larger commission. If you’ve found two houses that fit your criteria (similar size, good area, backyard, etc.) and the only real difference is the price, do you think your realtor is motivated to recommend you buy the cheaper or more expensive one?
Compounding this problem in Ontario, Canada (and many other places) is the process of “blind bidding” (knowing how many other bids there are on a property but not knowing the bid amounts), which hides important information about other buyers’ bids and requires an implicit trust between those bidding and their realtors.
If you’ve found a house you really like and your realtor advises you to offer another $25,000 to secure the highest bid, you’d probably take their advice and offer that much more. However, if you later realize (through talking with the previous owner or viewing the sale price if you decided to pass on the additional bidding) that only an additional $10,000 was required to secure the house, do you think your realtor (assuming they knew $10,000 would secure the highest bid) was acting in your best interest?
When receiving a recommendation or advice from someone, consider who is offering it and whether their motivation is affecting it to the point where your best interests are no longer the main focal point.