Thursday, January 19, 2012

Your Financial Advisor is Biased by Their Wallet

When you work for a company, you do what the boss says. When you're told this is how to make a living, you do it. When you're shown how the top earners made it big, you go for it. Who can knock success, right? But your financial success depends on your attention here, because your financial advisor's best interest may not be what is best for you.
I want to give you an idea of the type of money that changes hands between fund family companies and financial advisors. Fund companies spend billions of dollars on financial advisors in the form of straight pay outs, fees, commissions, entertainment, trips, 12B-1 fees, direct brokerage fees, pay-to-play fees and supermarket funds fees. These companies would not spend billions of dollars if it weren't effective.
Financial advisors take these payments because it's just how most of them make a living in this industry. Financial advisors aren't dummies; they sell what pays the most, and not necessarily what is best for their client.
I am going to give an example of a financial advising company, just to show this point. There are many publicly traded financial advising companies. You shouldn't work with any of them, just like you should only buy actively managed mutual funds. The exemplar company is called Edward Jones. They sell mutual funds to their investors. They're not publicly traded, so they rank OK on that score. But the same forces are at work, and the general partners who are senior investment reps and other owners of the company take the place of the stockholders in a publicly traded company. Most people know them as financial planners or financial advisors. But what they may not know about this company is that they have a preferred list of the fund families that they promote. To be on that preferred list, the fund families have to pay dearly in fees and commissions.
When their employees go through training, they're only introduced to these seven preferred mutual fund groups. This company even goes so far as to discourage their employees from contacting other fund companies from outside the preferred list. In fact, employee bonuses are linked to the selling of the preferred list.
In 2004, this firm got caught, along with other financial investment companies. They had collected $300 million in secret payments. And 95 % of the time, they sold mutual funds on their preferred list. Because the company didn't disclose relationships with the preferred list, they had to pay upwards of $75 million in fines to reimburse investors. However, they got paid much more than what was given back to their investors. To put this in perspective, in 2005 alone, after the settlement of $75 million, Edward Jones received $172 million in revenue sharing fees from their preferred seven fund families. That was one-third of their pretax income. A third of their income comes from these fees.
That isn't objective or unbiased. It's not proper behavior for a fiduciary. All these years after the litigation, on their website they state, "We focus on the individual investor, not big corporations." In fact, this seems even worse, because their reps are right there in the communities they sell to. Even with these small offices based in local communities, profits were more important than their clients, which would demonstrate that the focus is on their owners and on profitability.
If you're planning to work with a financial planner, work with one who does not work for a publicly traded company - or a company that acts like one - because there's less likelihood of getting unbiased, objective advice. Also important to know is the kind of research that financial advisors do, because it, too, is presented as objective evidence that will make you more money. But for whom does this really make more money?


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