A suitable investment is one that is appropriate for an investor given that investor’s risk tolerance and investment objectives. Determining whether an investment is suitable is the first step in a financial advisor’s process of developing a client’s portfolio. In determining suitability, financial advisors often weigh key issues such as the investor’s (1) willingness to accept risk of loss, (2) need for liquidity, (3) income, (4) age, and (5) other personal circumstances and investment objectives. FINRA Rule 2111 governs suitability and financial advisors’ obligations to ensure recommendations are suitable.
Suitability varies from person to person. A twenty-five year old investor may be inclined to take on more risk given their age, while a sixty-five year old may wish to be more conservative given their timeline for retirement. Importantly, suitability is constantly changing, and financial advisors should regularly review a client’s investment objectives to determine whether their current investments are appropriate.
Aside from risk, a key issue in determining suitability is the investor’s need for liquidity. Elderly investors often have more assets, but also may need access to those assets at any time. Products such as annuities, which lock up funds for a set number of years, could be inconsistent with the investor’s investment objectives and needs, even though they are conservative, predicable investment products.
Financial advisors that do not recommend suitable investments to clients may be liable for damages where there are excessive losses or minimal returns. FINRA requires that financial advisors understand their client’s investment objectives and recommend suitable investments. Often, financial advisors may make recommendations that are unsuitable, but result in higher commissions. Such recommendations would be unsuitable, even if they damages are minimal or occurred on one occasion.