Conflict of Interest

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Jan 15, 2009 5:17 pm

I've been thinking about this lately, especially with the -40% showing of the market.

 
There are two things that should be considered regarding people and their investments:
1.  Should they be invested in the market or not?  If so, how much of their money?
2.  What investments are they invested in and how does the advisor decide?
 
First, I would argue that most people don't even acknowledge #1.  If they see money, it should be invested. 
 
So, some clients, as we know, indicate they want a fee based advisor.  The advisor sells himself as the guy that "charges a fee so he can sit on the same side of fence as his client to ensure there is no conflict of interest".  The client accepts this and they invest.  It doesn't matter in what, advisor still gets paid.
 
BUT, we have come to find out that some clients can't handle this volatility.  So, he calls the advisor wanting to get out because he's not comfortable.  Advisor tells him to stay put, we're in it for the long haul, things will come back.
 
Truth is, the advisor doesn't get paid if his client gets out.  So, wouldn't this be the biggest conflict of interest possible? 
 
I mean, really, how many clients would fee based advisors have considered doing something different if it weren't for the fact they wouldn't get paid their fees? 
Jan 15, 2009 5:37 pm

Good question, snags, especially for those in brokerage "advisory" programs.  I struggled with that myself before going independent.

That is part of the reason I - as an RIA - am paid for advising on all assets, regardless of whether they are in funds, individual securities, money market ... whatever.  Since I am paid the same whether we go 100% to cash or are fully invested, the conflict of interest you mention is not an issue. 

But for most RRs here, you have put your finger on a key question.

Jan 15, 2009 5:39 pm

Snags, I'm not sure if this is true for you, but at LPL, there's a difference between ending the relationship and moving to cash. 

All my clients with cash are still being billed their advisory fee. 

Jan 15, 2009 5:49 pm

I hear you guys.  But I just can't justify the client earning .50% in our money market funds and taking a 1.5% fee.  That's guaranteeing them a -1% loss as long as they are in mmf. 

 
Now I know you probably justify it by saying, "Well I saved you 30% by moving to cash".  I don't know, I guess I just can't see myself ever charging on cash. 
 
If your relationship isn't ass-tight, I'm sure some people wouldn't be happy paying full pop on cash.
Jan 15, 2009 5:55 pm
snaggletooth:

I hear you guys.  But I just can't justify the client earning .50% in our money market funds and taking a 1.5% fee.  That's guaranteeing them a -1% loss as long as they are in mmf. 

 
Now I know you probably justify it by saying, "Well I saved you 30% by moving to cash".  I don't know, I guess I just can't see myself ever charging on cash. 
 
If your relationship isn't ass-tight, I'm sure some people wouldn't be happy paying full pop on cash.




Snags, are you charging an additional fee on those index annuities that you're selling? How much are the fees on those bad boys? How much are the hidden fees?

Jan 15, 2009 6:03 pm
Hank Moody:


Snags, are you charging an additional fee on those index annuities that you're selling? How much are the fees on those bad boys? How much are the hidden fees?

 
Too much.  Nobody wants to buy something without any fees.  Go figure.
Jan 15, 2009 6:40 pm
Morphius:

Good question, snags, especially for those in brokerage "advisory" programs.  I struggled with that myself before going independent.

That is part of the reason I - as an RIA - am paid for advising on all assets, regardless of whether they are in funds, individual securities, money market ... whatever.  Since I am paid the same whether we go 100% to cash or are fully invested, the conflict of interest you mention is not an issue. 

But for most RRs here, you have put your finger on a key question.

 
Agreed...  I am not an RIA, but my accounts operate the same way, I get a fee based on the assets in the accounts (regardless of investments and or cash)..
 
I think this is a great time to dump funds and buy good beaten down companies... I know sounds cliche, but the diversified fund needs the market to come back at least 30-45% depending to break even for the year... where as you can buy a stock( i.e. BP) at a good value with a great dividend(8%) and when the clients money will come back quicker because you just need that individual stock to rally no the entire market.. Obviously not for everyone, but I have been able to minimize losses by getting out of funds and DCAing into what I believe are good companys with beaten down values...
Jan 15, 2009 6:59 pm

1.  Should they be invested in the market or not?  If so, how much of their money?

Snags, it's our job to understand this question.  I don't know any planners/advisors who don't think about this.  Know the client's situation, know their pensions, their incomes, their debts, their savings, their bank CDs, their annuities--that's our job--and then find an appropriate investment with respect to their time-frame. 

The question I think you're getting at is: after 2008, is the market an appropriate investment at all? 

Jan 15, 2009 7:10 pm
gvf:

1.  Should they be invested in the market or not?  If so, how much of their money?

Snags, it's our job to understand this question.  I don't know any planners/advisors who don't think about this.  Know the client's situation, know their pensions, their incomes, their debts, their savings, their bank CDs, their annuities--that's our job--and then find an appropriate investment with respect to their time-frame. 

The question I think you're getting at is: after 2008, is the market an appropriate investment at all? 



It's comments such as that which have me convinced we'll see 10k on the dow by 4th of July weekend.

Jan 15, 2009 7:12 pm
gvf:

1.  Should they be invested in the market or not?  If so, how much of their money?

Snags, it's our job to understand this question.  I don't know any planners/advisors who don't think about this.  Know the client's situation, know their pensions, their incomes, their debts, their savings, their bank CDs, their annuities--that's our job--and then find an appropriate investment with respect to their time-frame. 

The question I think you're getting at is: after 2008, is the market an appropriate investment at all? 

 
I accept your thoughts as yours.  Not being rude, I just like that line. 
 
Let me ask you this:  Would you say that more often than not, when you ACAT an account in, it is fully invested?
 
I'll go further.  When I ACAT an account in that has an advisor on it, I find it almost always fully invested, minus maybe a couple of months of emergency money.  When I ACAT an account in that does not have an advisor, like an old 401(k) or I actually see heavy amounts of cash sometimes.  I realize that can be because the person doesn't know WTF they are doing or they sold out when they got scared.
 
Point is, most advisors I see have their clients fully invested possibly against the client's will.  The client probably doesn't say anything because they trust the advisor, who fully invests them to maximize profit.
 
This goes beyond being fee based or not.  Same thing applies to A shares or any commissioned sale.  For you guys that are fee based and charging on cash, it doesn't matter what the hell you do, you're still going to get paid maximum revenue.
 
Regarding your question, which is a good one:  The question I think you're getting at is: after 2008, is the market an appropriate investment at all? 
 
This is exactly why I'm changing the focus of my practice. 
Jan 15, 2009 7:15 pm
HymanRoth:


It's comments such as that which have me convinced we'll see 10k on the dow by 4th of July weekend.

 
Will you take a bet?  I used to think that way too, but I'm not convinced anymore.
Jan 15, 2009 7:20 pm
snaggletooth:

I've been thinking about this lately, especially with the -40% showing of the market.

 
There are two things that should be considered regarding people and their investments:
1.  Should they be invested in the market or not?  If so, how much of their money?
This is far too vague a question.  How old are they?  When do they plan on retiring?  How much income do you have to replace?  What are their liabilities?  The answer to your question is most people should have some exposure to equities.  How much depends on many factors.
2.  What investments are they invested in and how does the advisor decide?
By their individual situation.
First, I would argue that most people don't even acknowledge #1.  If they see money, it should be invested. 
 
So, some clients, as we know, indicate they want a fee based advisor.  The advisor sells himself as the guy that "charges a fee so he can sit on the same side of fence as his client to ensure there is no conflict of interest".  The client accepts this and they invest.  It doesn't matter in what, advisor still gets paid.
 
BUT, we have come to find out that some clients can't handle this volatility.  So, he calls the advisor wanting to get out because he's not comfortable.  Advisor tells him to stay put, we're in it for the long haul, things will come back.  At this point, if they are still holding what they did in 2006, it is probably the best advice.  Markets fluctuate, sometimes more than other times.  Check out where the S&P was after black Monday.  Look at where it is now, even after this bear market.  It did not get there in a straight line, but it got there.   Black Monday was only 21 years ago.  How many of your clients would this apply too?  How about anyone 66 or under.  How many bear markets between then and now?  I can think of 4.  Up 275% not including dividends.  Why are you paying me?  To make sure you do not let emotions control your investment philosophy.  Most investors did not see a 275% return because they let emotions control their behaviour and got out at market bottoms, and got back in at market tops.
 
Truth is, the advisor doesn't get paid if his client gets out.  So, wouldn't this be the biggest conflict of interest possible? 
I get paid on cash.  Cash is a position, and even if the fee is more than the interest, there is no conflict.  I didn't take more in 2006, why should I take less in 2008?  You are paying me for my advice, not the short term returns you receive.  Investing is a long term process.
I mean, really, how many clients would fee based advisors have considered doing something different if it weren't for the fact they wouldn't get paid their fees? 
Jan 15, 2009 8:06 pm

I'm maybe sorta like Snags -- seeing a lot of people, my clients included, who shouldn't be in stocks. Many people don't want to be there and can't handle the volatility. Most of them don't understand the stock market, even the simple things.
I also think, politically speaking, the idea that people should depend on stocks in 401ks for their retirment is going to end. People have been forced into these things not really understanding them and not getting any help.
Maybe 401ks should only be equity indexed annuites or some type of defined benefit plans. Retirement could be an insurance policy and not an investment.
Finally, in perfect world, interest rates would be more consistent. If the Treasury rate was 4 or 5 percent, year after year, people could invest with some certainty. All this whipsawing of interest rates and stock markets is good only for the financial service industry.



Jan 15, 2009 8:12 pm
snaggletooth:
HymanRoth:


It's comments such as that which have me convinced we'll see 10k on the dow by 4th of July weekend.

 
Will you take a bet?  I used to think that way too, but I'm not convinced anymore.



Snags, based on the tone of your posts, I'd say you've been pooping in your pants for about 8-9 months or more.  Is it your clients that are too emotional to be in the market, or are you freaking out instead of being the steady hand that they need?

All this talk just increases my conviction.  It's like back in the 70's when Newsweek ran the famous cover story on "The Death of Equities".

It's ok....go pile your money into t-bills...you can help fuel the rally when we get to about 9500 and you start to freak out that your 'missing out'.  We need people like that to make a good rally carry that last leg up.

Jan 15, 2009 8:13 pm
buyandhold:

I'm maybe sorta like Snags -- seeing a lot of people, my clients included, who shouldn't be in stocks. Many people don't want to be there and can't handle the volatility. Most of them don't understand the stock market, even the simple things.
I also think, politically speaking, the idea that people should depend on stocks in 401ks for their retirment is going to end. People have been forced into these things not really understanding them and not getting any help.
Maybe 401ks should only be equity indexed annuites or some type of defined benefit plans. Retirement could be an insurance policy and not an investment.
Finally, in perfect world, interest rates would be more consistent. If the Treasury rate was 4 or 5 percent, year after year, people could invest with some certainty. All this whipsawing of interest rates and stock markets is good only for the financial service industry.



 
The thing about investing, those that do it correctly profit, those that do it incorrectly don't.  If investing were easy, everyone would be rich.  Everybody who cannot understand this should do something else.
Jan 15, 2009 9:15 pm
HymanRoth:


Snags, based on the tone of your posts, I'd say you've been pooping in your pants for about 8-9 months or more.  Is it your clients that are too emotional to be in the market, or are you freaking out instead of being the steady hand that they need?

All this talk just increases my conviction.  It's like back in the 70's when Newsweek ran the famous cover story on "The Death of Equities".

It's ok....go pile your money into t-bills...you can help fuel the rally when we get to about 9500 and you start to freak out that your 'missing out'.  We need people like that to make a good rally carry that last leg up.

 
Unfortunately, tone is one thing that can't come across on the internet. 
 
I am completely comfortable and have never been happier.  I've been positioning my clients to be OK regardless of the market. 
 
I am making this a central theme in my 2009 business planning. 
 
I'm not saying outright that people need to sell.  I'm saying they need to have real expectations and plan accordingly. 
 
I hope the market keeps doing crazy stuff.  I will make A LOT more money helping people and the advisors that are running scared will lose A LOT more clients. 
Jan 15, 2009 10:35 pm
buyandhold:

I also think, politically speaking, the idea that people should depend on stocks in 401ks for their retirment is going to end. People have been forced into these things not really understanding them and not getting any help.


Forced?  How, exactly, has
anyone been 'forced' into 'stocks' in their 401Ks? Even if you
meant equity funds, I don't know of any decent 401K plan that doesn't
offer fixed income, money market, or similar investment alternatives to
equities. 

buyandhold:

Maybe 401ks should only be equity indexed annuites or some type of defined benefit plans. Retirement could be an insurance policy and not an investment.


401Ks cannot ever be defined benefit plans,
since they are, by definition, defined contribution plans.   One cannot possibly be the
other. 

And most life insurance/annuities already enjoy tax advantaged status, so anyone that wants to use insurnce as part of their retirement strategy is already free to do so.

buyandhold:

Finally, in perfect world, interest rates would be more consistent. If the Treasury rate was 4 or 5 percent, year after year, people could invest with some certainty. All this whipsawing of interest rates and stock markets is good only for the financial service industry.


Did
you really just say that, comrade?! Is your perfect world - where rates
are consistent year after year - based in Moscow??   

How long have you been in this business, buyandhold?

Jan 16, 2009 7:56 am
iceco1d:
Sam Houston:
 
The thing about investing, those that do it correctly profit, those that do it incorrectly don't.  If investing were easy, everyone would be rich.  Everybody who cannot understand this should do something else.
 
 
Short.  Sweet.  Spot on. 



Well, nobody's saying anything differently. Of course we need to invest. The question is: Do you invest in stocks or real estate or their children's education or insurance or Treasuries or gold, etc., etc.
Most people invest too much in their homes or in stocks, imo. I think public policy was to steer people into investing in real estate -- a big, illiquid investment with huge interest payments, which has blown up on us, or stocks, which are too volatile for the public.





Jan 16, 2009 9:42 am

I think maybe the real question he is trying to ask is does what was commonly held as conventional wisdom really hold true over time in regards to asset classes, allocation etc..

Jan 16, 2009 10:24 am

Yes asset allocation works, but it has to be true asset allocation... Not just lets buy 5 different American Funds... ta da.. your diversified....

 
It needs to encorporate non correllated assets, and you can't get those from any mutual funds... If you can fit everything you have in your portfolio into a Morningstar hypo, you don't have true asset allocation...