Advisors and Drunken Sailors

Picture this if you dare: You are a pretty young girl pining for the man of your dreams in a seedy bar next to the port. In walks a drunken sailor just back from a month-long voyage. After a few more drinks, he’s smitten by your charm and professes his eternal love. Do you give him all he desires along with your life-savings in exchange for the promise of life-long happiness? Wouldn’t you trust this guy if he had such an offer for you?

No!? Why ever not? I’ll bet he’d be likelier to be an honest hard-working gentleman with your best interest at heart than some “advisors” who have cold-called me and asked for all of my money in the past.

I just read something today that reinforces my bias about many advisors. Not all, mind you, but many. As in any profession, there are the good, the bad and the drunk.

Marc Faber in Barron’s said this recently: What I recommend to clients and what I do with my own portfolio aren’t always the same. (…) About 20% of my net worth is in gold. I don’t even value it in my portfolio. What goes down, I don’t value. (…) I recommend the Market Vectors Junior Gold Miners ETF [GDXJ], although I don’t own it. I own physical gold because the old system will implode. Those who own paper assets are doomed.

So, he tells his customers to do one thing while he personally does another, quite different thing. He recommends a paper asset (GDXJ) to his customers and then goes on to say that anyone with paper will take a major loss. Ouch. Tough to reconcile this kind of stuff! Perhaps he’s trying to make drunken sailors seem more respectable? Or perhaps this is just a misunderstanding and not at all what he meant?

It does kind of reminds me of Goldman Sachs a few years ago when they denigrated their customers and called them “muppets”.

Despite this attitude, despite selling stuff that benefits GS but is potentially harmful for their clients, despite all of the scandals, Goldman Sachs is doing quite well, thank you. People still use them regularly and still trust their advisors and the advice they get from them.

Just as a reminder, here are 5 of their recent scandals from a Yahoo! Article:

5. Paying to play
Goldman VP Neil Morrison was charged by the SEC with having a hand in then-state treasurer Timothy Cahill’s independent bid for governor while trying to get bond business for Goldman Sachs. Morrison had previously worked for Cahill at the treasury. Ultimately, Morrison was fined $100,000 and barred from securities trading for five years.

4. The Muppet Show
When Goldman trader Greg Smith resigned, he took to print, accusing his former employer of losing its old culture. He said it was now full of “morally bankrupt” people who called clients “muppets” behind their backs.

3. Goldman’s Greek games
The Archimedes Screw was invented by the Greek mathematician to transfer water out of low-levels of water and into ditches. In the last decade, Goldman Sachs’ version transferred high levels of Greek debt to further dates, sinking the country into a huge financial ditch while trying to dodge EU budget oversight.

2. The fabulous financial fiasco
Goldman sold a lot of collateralized debt obligations (CDOs) such as mortgage-backed securities (MBSs) before the housing market collapse. One group of “synthetic CDOs” was sold to investors. What Goldman didn’t mention was the John Paulson’s fund had a role in picking the composition of those CDOs at a time it was shorting them. Goldman paid $550 million to settle charges related to it. Meanwhile, former Goldman mid-level trader Fabrice “Fabulous Fab” Tourre is currently on trial for his role in the case. Oh, and Paulson made over $1 billion during the housing market collapse.

1. Getting taxpayer money through AIG
When insurance giant AIG nearly went bust, one of the reasons it was bailed out by the US government was it was too big to fail. What was going to make them fail? All the credit default swaps (CDSs) sold to Goldman Sachs in case a counterparty’s credit declined. So, guess who got billions of dollars in the taxpayers’ bailout of AIG? Yep, Goldman Sachs.

What’s up with that? Well, I’m sure all the good people at the firms I mentioned are acting within the very strict confines of the law. One problem may be that there are two standards for advisors: Fiduciary and Suitability.

The Suitability Standard is the one that applies to most brokers and only means that they have to recommend stuff that matches their client’s risk-tolerance. So, the advisor working for GS is free to recommend the GS Mutual Fund with a fee of 2% over the Vanguard Same Type-of-Fund with a fee of 0.45% as long as the risk-tolerance is right. They may in some cases be getting bonuses for that type of behavior. Yay! Except that the customer ends up paying large fees which destroy his return on investment (but boosts the firm’s profits big-time!). So calling this standard “suitable” must have been some kind of sick joke because it doesn’t guarantee the customer is getting anything good.

That said, I have worked with, and in fact still work with brokers who operate under this standard. It’s sufficient for what I ask of my broker, which is basically just to buy and sell stuff I ask him to. He washes his hands of my recklessness by writing “unsolicited” on my trades and everyone’s happy.

The other standard is the Fiduciary Standard and basically says that the advisor has to pick what’s best for YOU, over and above his own well-being. So, if he’s privately betting that gold paper assets will go down in price, he can’t tell you to buy a gold ETF even if that meets the Suitability Standard. He has to tell you to get gold coins or bullion.

CFPs are the people you want to talk to. Here are 3 sites with rigorous Fiduciary standards for their advisors:

Next week, I’ll address the other side of the problem: The Lying, Looney Customers.


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About Beer Vestor

I like beer. I like free beer better. With this blog, I want to show you the process I use to get free beer. Follow along if you like but remember that this is for ENTERTAINMENT ONLY! Nothing here is is to be taken seriously and if you lose money in your quest for free beer, it's 100% your own fault for following along with someone who is NOT AN INVESTMENT REGISTERED ANYTHING and who BUYS first and talks about it LATER!

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