The Sales Pitch Goes Like This...

“You’re a financially sophisticated and well-to-do executive (business owner, etc.) and you shouldn’t be in the same investment vehicles as the average investor. You deserve better. We’ll give you access to exclusive investments with above average returns that only we can provide."

We all know that Bernie Madoff used financial sophistication and exclusivity to attract wealthy and famous investors to his ill-fated Ponzi scheme, but I have become increasingly furious about the same sales approach being used by national brokerage firms, with horrible financial results.

Over the past year we have had people referred to us that were invested with well known companies like Merrill Lynch, Smith Barney and UBS Financial Services. These companies tout their size, financial sophistication and exclusive investment products as client benefits. Based on our review of portfolios they managed, their products have done nothing but separate clients from their wealth, while racking up profits for themselves.

One example is auction rate securities. According to SEC documents, these were sold by UBS, Citigroup, Morgan Stanley, Merrill Lynch and others as “cash equivalents” that could be liquidated in as little as 7 days, while paying higher interest rates than money market instruments and CDs. In February of 2008, the auction market used to reset the interest rates on these products failed, and clients learned how risky their investments actually were. A February 15, 2008 New York Times article said “some well-heeled investors got a big jolt from Goldman Sachs this week: Goldman, the most celebrated bank on Wall Street, refused to let them withdraw their money from investments they had considered as safe as cash.” Many people are still locked out of their investments, and the SEC has settled charges against several firms. One of our clients was finally able to recover 90% of his investment from his prior advisor, but only after several months of fighting and many sleepless nights.

Another example is structured investments. I couldn’t describe them any better than the May 28, 2009 Wall Street Journal article entitled Twice Shy on Structured Products?
“Wall Street burned thousands of investors with so-called structured products that were supposed to provide healthy profits and limit losses. Brokers, hoping investors' memories are short, are pushing these high-fee products again with safety as the big selling point. Brokers are eager to sell these structured products because commissions are high, but they face explaining why many of these products didn't perform as advertised. They also must convince clients that the firms behind these products are solid. Investors who bought products backed by firms that failed, such as Lehman Brothers, have big losses.”

The article goes on to tell the story of people who lost all their investment in these products. At The Asset Advisory Group, we have seen structured investments in portfolios we’ve been asked to review. In a UBS marketing piece, they describe a UBS structured investment product as an “integral part of a modern portfolio that provides enhanced return potential." But the same investment described in the brochure was held in a portfolio we reviewed, and it had created significant losses.

Every investor should understand the investments they hold. If your advisor can’t explain it to you clearly, then his cloud of complexity is probably covering up layers of risk and fees. Why in the world would you want to own it?

Jeannette Jones, CPA, CFP ®
jjones@taaginc.com
http://www.taaginc.com/

Does Your Financial Advisor Work for You?

As the market recovery continues, we have been receiving many phone calls from individuals looking for a new financial advisor. Most inquiries are from people who have been working with a brokerage firm such as Merrill Lynch or Smith Barney. Last year’s market rout has exposed the fact that their portfolios were not diversified, and their broker isn’t interested in proactively communicating with them. As if this is not enough, when we prepare an analysis of their current portfolio, they are often shocked to find out the true cost of this advice.

Bob Veres, author of a monthly newsletter for financial advisors explains:

A brokerage firm representative is employed by, and owes a duty to, the firm, rather than the client.

The brokerage firm representative is PAID by the brokerage firm, rather than the client.
People follow the directions of whoever is paying their income.

And (here's the biggest distinction) the brokerage firm representatives inevitably recommend investment products with a lot of buried, hidden, obscure costs that trickle out of the customer's investment portfolio into those enormous multi-billion-dollar bonus pools. By the rough estimate of one advisor, a client with a $1 million portfolio will pay at least $20,000 more in various hidden costs to a broker than he or she to a financial advisor, even if both the broker and advisor are charging the same fee amount for the planning and investment work.

This is not just an issue of finding the cheapest advisor. This is the brokerage firm putting one over on its customers, draining the portfolio in ways that are never quite visible.It's a trust issue. The brokerage person posing as a real professional is helping the firm take money which, if the consumer knew about it, the consumer would object. The difference between professionals and salespeople is the professionals disclose all costs and compensation clearly and visibly, and you know what you're paying for.

At The Asset Advisory Group, the only compensation we receive is from our clients. Period. We are never paid by an investment company or any other firm. It is important for everyone to understand how the person giving them investment advice is compensated so they can be assured their advisor is working for them and not on behalf of their employer.

By Chris Carleton, CFP®
clcarleton@taaginc.com
www.taaginc.com

Why Don't You Just Give Your Broker a Gun and Tell Him to Shoot You?

(From Dan Solin's blog, Huffington Post, July 14, 2009)

A reader of my blogs sent me an e-mail with a Customer Agreement from a major brokerage firm. She asked me to look it over and tell her if she should sign it.

The first thing that struck me was this clause:
"Brokerage activities are regulated under different laws and rules than advisory activities and generally do not give rise to the fiduciary duties that an investment adviser has to its clients."
The agreement pointed out that the brokerage firm "...may face certain conflicts of interest and as such, its interests may differ from yours."

These statements are typically inserted in account opening agreements.
I asked the reader this question: Why would you entrust your assets to a firm that tells you it does not have to act in your best interests and further that it may have conflicts of interest with you which it will resolve in its favor?

It gets worse:
The agreement also provided that all disputes must be resolved by mandatory arbitration. Not before an impartial panel, but one appointed by FINRA, which is essentially a trade group for the securities industry.

William Galvin, the highly respected Secretary of the Commonwealth of Massachusetts aptly described FINRA's arbitration process in testimony before a congressional sub-committee as "an industry sponsored damage-containment and control program masquerading as a juridical proceeding."

Taken together, these clauses are a sucker punch for the unwary investor. The brokerage firm is telling you straight up that they will not act in your best interest. By consigning you to FINRA's mandatory arbitration, it is unlikely that you will get justice when you try to recover for their misconduct.

Why don't you just give them a gun and tell them to shoot you?

What's your option?
Don't play by their rules. Instead, if you need investment advice, retain a Registered Investment Advisor. They are required by law to be fiduciaries. If their agreements provide for arbitration, it will not be FINRA arbitration and you can often negotiate the removal of the arbitration clause altogether.

Just be sure the advisor focuses on your asset allocation and limits your investments to a globally diversified portfolio of low cost index funds, Exchange Traded Funds or passively managed funds.

The reader sent me this note: "Amazing how 90% of the public does not understand that they are the investor sheep heading to the Wall Street butcher shop."

My sentiments exactly.

The views set forth in this blog are the opinions of the author alone and may not represent the views of any firm or entity with whom he is affiliated. The data, information, and content on this blog are for information, education, and non-commercial purposes only. Returns from index funds do not represent the performance of any investment advisory firm. The information on this blog does not involve the rendering of personalized investment advice and is limited to the dissemination of opinions on investing. No reader should construe these opinions as an offer of advisory services. Readers who require investment advice should retain the services of a competent investment professional. The information on this blog is not an offer to buy or sell, or a solicitation of any offer to buy or sell any securities or class of securities mentioned herein.

The F-Word

One of the least discussed but most important factors to consider when hiring a financial advisor is whether or not they are a fiduciary. This means the advisor has a legal obligation to put their clients’ interests ahead of their own. Most consumers assume that their advisor is acting in this capacity, when many times he is not.

The law regards the job of advisor as a position of trust and requires those with a fiduciary obligation to disclose any conflicts of interest and to act with a heightened sense of duty toward clients. Registered Investment Advisors with the Securities and Exchange Commission are held to this standard. As of July 1, 2008, Certified Financial Planners had the ethical standards by which they are held revised, making it explicit they too must put clients’ interests first, act as fiduciary and disclose the scope of their engagement and their compensation when engaging in planning activities.

Because a broker’s job is considered to be transactional as they are often placing trades on a client’s behalf, they are held to a different regulatory standard. Their duty is to make a recommendation that is “suitable” to their client’s circumstances. If a brokerage house manages a large cap growth mutual fund that has an internal expense ratio of 1.50% and an additional 12b-1 marketing fee of 1% that is paid to the broker, this would be considered suitable instead of recommending another large cap growth fund with much lower internal costs.

In the financial services industry, there has been a lot of talk about how consumers are confused about the difference between brokers who call themselves "financial advisors" or "investment advisors" and Registered Investment Advisors who are held to a fiduciary standard. In the past each were paid very differently – advisors charged management fees and brokers received commissions. Over the past several years many brokers have begun charging fees, giving consumers the impression that they are acting as fiduciaries.

The recently proposed financial regulatory reform legislation gives members of Congress the opportunity to improve the world of consumer finance. Fortunately Mary Shapiro, head of the Securities and Exchange Commission, has stated that the SEC might recommend creating a single standard that applies to advisors and brokers – a fiduciary standard.

In the interim, make sure you question your financial advisor as to which standard they are held.

By Chris Carleton, CFP®