Feb

2010

comm

Fees, Exploitation and Confusion Hammer Investors

Posted by Admin

The financial industry can, at times, function like a hammer. If you haven’t figured that out, then it’s time to wake up to the cruel realities of the industry. Let’s see what it takes to become the hammer rather than receiving the brunt of the pounding, like the nail.

I interface with investors of all stripes and the vast majority of them have no idea what they are paying in fees. When I ask investors what fees, commissions and transactions costs are being siphoned from their wallets, I get the proverbial deer looking into the headlight response. And who can blame them? Buried in the deluge of pages and hiding in the fine print is a list of load fees, management fees, 12b-1 fees, administrative fees, surrender charges, transaction costs, commissions and more. One practically is required to obtain a law degree in order to translate this foreign language.

Wolf in Sheep’s Clothing

These wolves don’t look like wolves. These amicable individuals have infiltrated your country clubs, groups, volunteer organizations and churches. The following response is what I usually get: “Johnny, my financial consultant, is such a nice man – we have known him for so long.” Yeah, well maybe the reason why Johnny is so nice and happy is because of the hefty fees and commissions you are paying him. Rather than paying for an expensive friend, maybe what you need is someone who can accelerate your time to retirement or improve your quality of life. If you prefer eating mac and cheese over filet mignon, or are looking to secure a position at Wal-Mart as a greeter in your 80s, then don’t pay any attention to the fees you may be getting gouged on.

I don’t want to demonize all practitioners and aspects of the financial industry, but like Las Vegas, there is a reason the industry makes so much money. The odds and business practices are stacked in their favor, so focus on protecting yourself.

Confusion

Investors face a very challenging environment these days, needing to decipher everything from Dubai debt defaults and PIIGS sovereign risk (Portugal-Ireland-Italy-Greece-Spain) to proposed new banking regulation and massive swings in the U.S. dollar. If our brightest economists and government officials can’t decipher these issues and “time the market,” then how in the heck are aggressive financial salesmen and casual investors supposed to digest all this ever-changing data? Making matters worse, the media continuously pours gasoline on fear-inducing uncertainties and shovels piles of greed-motivating fodder, which only serves to make matters more confusing for investors. Do yourself a favor and turn off the television. There are ways of staying informed without succumbing to sensationalized media.

Pushy financial salespeople complicate the situation by attempting to”wow” clients with fancy acronyms and industry jargon in hopes of impressing a prospect or client. In some situations, this superficial strategy may confuse an investor into thinking the consultant is knowledgeable, but in more instances than not, if the salesperson doesn’t know how to explain the investment concept in terms you understand, then there’s a good chance they are just blowing a lot of hot air.

Here’s what famous growth investor William O’Neil has to say about advice:

“Since the market tends to go in the opposite direction of what the majority of people think, I would say 95% of all these people you hear on TV shows are giving you their personal opinion. And personal opinions are almost always worthless … facts and markets are far more reliable.”

Amen.

Mistake of Trying to Time Market

My best advice to you is not to try and time the market. Even for the speculators with correct timing on one trade rarely get the move right the next time. As previously mentioned, even the smartest people on our planet have failed miserably, so I don’t recommend you trying it ether.

Here are a few examples of timing gone awry:

Nobel Prize winners Robert Merton and Myron Scholes incorrectly predicted the direction of various economic variables in 1998 while investing client money at Long Term Capital Management. As a result of their poor timing, they single-handedly almost brought the global financial markets to their knees.

Former Federal Reserve Chairman, Alan Greenspan, is famously quoted for his “irrational exuberance” speech in 1996 when the NASDAQ index was trading around 1,300. Needless to say, the index went on to climb above 5,000 in the coming years. Not such great timing Al.

More recently, Ben Bernanke assumed the Federal Reserve Chairman role (arguably the most powerful financial position in our Universe) in February 2006. Unfortunately even he could not identify the credit and housing bubble that soon burst right under his nose.

Some of the best advice I have come across comes from Peter Lynch, former Fidelity manager of the Magellan Fund. From 1977-1990 his fund’s investment return averaged +29% per year. Here’s what he has to say about investment timing in the market:

“Worrying about the stock market 14 minutes per year is 12 minutes too many.”

“Anyone can do well in a good market, assume the market is going nowhere and invest accordingly”

Financial Carnage

The long-term result for investors playing the game, with rules stacked against them, is financial carnage.

If you don’t believe me, then just ask John Bogle, chairman of one of the fastest growing and most successful large financial firms in the industry. His 1984-2002 study shows how badly the average investor gets slammed, thanks to aggressive fees peddled by forceful financial salesmen and the urging into destructive emotional decisions. Specifically, the study shows the battered average fund investor earning a meager 2.7% per year while the overall stock market earned +12.9% annually over the period.

It‘s Your Investment Future

Given the economic times we are experiencing now, there is more confusion than ever in the marketplace. Insistent financial salespeople are using aggressive smoke and mirror tactics, which in many cases leads to unfortunate and damaging investment outcomes. Do your best to prepare and educate yourself, so you can become the hammer and not the nail.

More Resources:

Sidoxia Capital Management, LLC is an independent Registered Investment Advisor in California.

Wade W. Slome, CFA, CFP® has worked in the investment industry since 1993, and Bloomberg identified him as the second youngest manager among the largest 25 actively-managed U.S. mutual funds in 2005. Mr. Slome has also been a media go-to resource, seen on ABC News and quoted in USA Today, The New York Times, Dow Jones, Investor’s Business Daily, Bloomberg, and Smart Money, among other publications. He is also publisher of investment blog, InvestingCaffeine.com and an instructor at the University of California, Irvine teaching an Advanced Stock Investment course through the extension program.

Prior to founding Sidoxia Capital Management (www.Sidoxia.com), Mr. Slome managed a multi-billion mutual fund at American Century Investments from October 2002 through August 2007.

Mr. Slome earned a master’s degree in business administration with a concentration in finance from Cornell University and a bachelor’s degree in economics from the University of California, Los Angeles.