A Morality Litmus Test For Your Broker

(from Dan Solin's Huffington Post blog, 7/12/2011 - click here for the original post)

It's bad enough that Ponzi schemers continue to thrive. The limits these schemers will go to get your money know no bounds. According to a recent report, three former members of the PTA used their connection with a grade school in Los Angeles to bilk investors out of $14 million. The women allegedly represented they had the exclusive right to sell products from a local dairy to various Disney enterprises and others. They promised returns of up to 100 percent.

40 investors used their life savings and took out second mortgages to pony up their "investments."  According to investigators, some of the money was spent on vacations, hotels, cars and gambling.

In another scheme, Christopher Pettengill pleaded guilty to a variety of fraud charges. He was charged with concealing information from investors about a foreign currency program, while touting the investment as low risk. Mr. Pettengill admitted making a personal credit card payment of $11,369 from proceeds of the fraud.

These schemes share a common theme: The promise of high returns without commensurate risk. But even if you are too smart to fall for this kind of scam, your investments may still be in danger. You need a morality litmus test before you entrust your retirement savings to any broker or adviser.

A timely case in point is J.P. Morgan Securities. In a release dated July 7, 2011, the SEC charged this venerable firm with fraudulently rigging at least 93 municipal bond reinvestment transactions in 31 states, generating "millions of dollars in ill-gotten gains." According to Robert Khuzami, Director of the SEC's Division of Enforcement, "Municipal issuers and investors didn't stand a chance against the fraudulent strategies JPMS and others used to guarantee profits."

JPMS settled these charges by paying $51.2 million which will be returned to the affected municipalities and $177 million to settle parallel charges brought by federal and state authorities. As is typical in these matters, JPMS neither admitted nor denied the allegations in the complaint.

JPMS and its colleagues in the securities industry manage trillions of dollars of assets. Most of this money is actively managed, meaning they attempt to add "alpha" by beating designated benchmarks. The fact that overwhelming data indicates most active managers add "negative alpha", has had limited impact on these clients to date.

Investors "don't stand a chance" when dealing with brokers who view breaking the law and paying relatively trivial fines as a minor cost of doing business.

Just because it's business as usual for them, doesn't mean you should abandon your moral and ethical principles and continue to patronize them. A collateral benefit of using your moral compass is that your returns are likely to increase when you discover the benefits of a globally diversified portfolio of low management fee stock and bond index funds -- something your local broker is unlikely to discuss with you.

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. Furthermore, the information on this blog should not be construed as an offer of advisory services. Please note that the author does not recommend specific securities nor is he responsible for comments made by persons posting on this blog.

5-Star Weekend

This weekend, I had the honor of joining my father for the Pro Football Hall of Fame induction weekend as a guest of one of the enshrinees, Emmitt Smith, the NFL’s all-time leading rusher. It was an amazing weekend with lots of legends of the game, family, friends and fans all celebrating the accomplishments of the new class and the sacrifices they made to achieve greatness.

All weekend, I felt very much like an ad for a must-buy mutual fund in any number of financial publications. All sizzle and no steak, if you will. On multiple occasions, my father and I, along with a thousand or two other friends and family of the inductees, were bused from venue to venue, cutting ahead of throngs of fans as we were ushered to various events. We met some great people and had a wonderful time, but these buses were full of, for lack of a better word, nobodies. That didn’t stop a lot of fans dying to be steps away from fame to surround us as we arrived at each location to study each and every one of us, guessing who we might be. People waited for hours, pushing and prodding their way to the fronts of roped off areas with the promise of something great. What they got was a sunburn and lots of disappointment. Apparently, my autograph isn’t all that in demand.

Why did this make me feel like a hot mutual fund? Much like the tinted windows of the buses held the promise of famous faces, the glossy ads touting 5-star ratings and recent outstanding performance are nothing but window dressing.

Human perception and the need for status is a curious thing. It’s intriguing how we can perceive great value or the promise of a big payoff just based on the way something is presented or packaged without doing any thinking or homework to see if it really makes sense. If any of the people who waited hours to see some famous athletes would’ve taken a few seconds to think through what they were investing their time in, they probably would have realized that the NFL isn’t likely to bring Jerry Rice, Emmitt Smith or any of the other players in attendance right through crowds of people on their way to the ceremonies.

In that same vein, the next time you see an ad, talk to a friend, or see something on TV about a new can’t miss investment product or other idea, ask yourself if you truly understand the investment philosophy of the product being offered and believe it can help you meet your financial goals. More often than not, you’ll realize that it’s just another fund and that the only thing on the other side of the velvet rope it presents itself behind is another experience of chasing returns with disappointing results.

Chip Workman, CFP®
cworkman@taaginc.com
http://www.taaginc.com/

Free Agent Forecasting

What can LeBron James teach us about financial experts forecasting the future?

I’m probably in the minority of those of us who participate in this blog as a fan of the National Basketball Association, so some of this information may be new to some of you. That said, if you have picked up a paper, watched a news broadcast or have even a fleeting interest in sports, you have probably at least heard LeBron James’ name over the last several weeks.

For the uninitiated, LeBron James is one of the top players in the NBA. As of the end of this season, he’d spent his entire career playing for his hometown Cleveland Cavaliers. On July 1st, LeBron became an unrestricted free agent and could choose to stay at home or test the waters in a new market.

When did the media start forecasting where he would go? Last week? Last month? Actually, the first news stories speculating about his future began as early as 2008. Things built to a roar over the last basketball season and ended in full blown mayhem over the last month. The event culminated in LeBron dictating terms to ESPN for a one hour prime time TV special last Thursday in which he announced his decision to leave home for the warm air and blue waters of Miami, Florida.

The point to all of this is how important it was for someone, anyone to break the story of where he was going in advance of the announcement. Reporters and other so-called “experts” postured and positioned to be first to break the story and reap the rewards if they did. If you were to believe each report, it was all but guaranteed by these experts that LeBron was to sign with six different teams at any given time.

Did these reporters really have trusted sources that could verify each and every one of these scenarios? No, they were placing a bet. The bet was that they’d leak a scenario based on flimsy information and, if proven right, would claim that they broke the news first.

So what does all of this teach us about reporting on the markets? Part of the 24 hour news, sports and entertainment cycle that we all live with are lots of business writers, economists and other experts that benefit greatly if their forecasts end up paying off. Like with the sports reporters, it can mean book deals, lucrative media contracts and other such offers that can certainly boost the lifestyle of said “expert”. These industry incentives have shifted and are now there to encourage guessing or betting on the correct forecast over focusing on accuracy.

In the end, someone is going to be right, but can you pick that person in advance and would you be comfortable enough if you thought you could to risk your savings on that bet? For most of us, the answer is no, yet many investors choose that path on a daily basis.

The race for accuracy has been replaced by the race to be first. To sports fans, the misinformation that results is a minor annoyance as we watch egos pick which city will earn the right to pay players millions of dollars each season. But with investing, it’s a dangerous game that can toy with investors’ emotions. Rise above the fray, have a concrete plan in place, stick to it and tune out the noise.

Chip Workman, CFP®
cworkman@taaginc.com
http://www.taaginc.com

Lessons for Investing Success

It’s always interesting to read the financial press this time of year. You can find a prediction to support whatever your gut feeling is about the future direction of the stock market. Tucked into this month’s Money Magazine amongst articles profiling the hottest mutual fund managers, and why investing in gold is a fool’s errand, is an excerpt from The Elements of Investing by Burton G. Malkiel and Charles D. Ellis. It caught my eye because Dimensional Fund Advisors (DFA), whose mutual funds we use in our client portfolios, utilizes the research of both of these gentlemen to guide their approach to investing.

The article is entitled “Dodge the 6 Biggest Investing Mistakes” and in each area, I see clients struggle to overcome these mistakes so that they will be successful long term investors.

Overconfidence

“We tend to be overconfident. If we do make a successful investment, we confuse luck with skill.”

All of us want to be able to brag to our friends that we identified the next hot stock before anyone else due to our superior stock picking ability. In reality, most times a lucky pick can turn into a disaster when confused with skill that can be relied upon in the future.

Following the Herd

“Just as contagious euphoria leads investors to take greater and greater risks, the same self-destructive behavior leads many to sell at the market’s bottom when pessimism is rampant.”

During the past twenty years I have talked many clients out of doing the exact opposite of what they should. We all know that buying low and selling high is the way to investing success, but unfortunately, our gut, along with the popular press and our friends and relatives, often leads us in the wrong direction.

Timing the Market

“The average investor’s actual returns are at least two percentage points lower (than the stock market as a whole) because the money tends to come in at or near the top and out at or near the bottom.

I think that this is one of the areas that an advisor can add the most value to clients. It doesn’t matter if the market is going up or down, investors feel better when buying the winning asset class or stock and selling the loser. Convincing them that staying invested over the long run is the best path to reaching their financial goals can be challenging during a roaring bull or raging bear market.

Assuming More Control Than You Have

“There is no dependable way to predict the future movements of a stock’s price from its past wanderings.”

We all want to look for trends, whether it’s in the market’s movement in general, a particular stock’s price, or whether it is likely to split in future. Feeling as if we can spot these patterns gives us more sense of security than we really have. I continually see this when discussing the price of the stock of a company from where the client has retired.

Paying Too Much in Fees

“There is one piece of investment advice that, if you can follow it, can dependably increase your returns: Minimize your investment costs.”

The DFA funds are not available to the public and are passively managed, which both allow them to keep the costs within their funds a fraction of what the typical retail investor pays.

Trusting Stockbrokers

“The stockbroker’s real job is not to make money for you but to make money from you.”

The advantage of working with an independent, fee only investment advisor is that there is no incentive from a brokerage firm to recommend trades or products which can be hazardous to the client’s wealth.

Investors that are able to overcome these mistakes and focus on their long terms goals despite the short term fluctuations of the stock market and the constant barrage from the media enticing them to do the exact opposite, are more likely to have a successful investing experience.

Chris Carleton, CFP®
clcarleton@taaginc.com
http://www.taaginc.com/