Retirement Funds Vanish as Bankruptcies Hit Tax-Deferred Scheme : Bloomberg's Erik Larson

The story is about an intermediary and some section 1031 exchanges gone very bad. Money not there. Now I'm neither a CPA nor a tax practitioner. From a very general investment and personal finance perspective, what are the lessons?

Businesses built around the tax code's loopholes can turn out to be very poor places to put your money. There must be a "valid business purpose" somewhere in there. I'm not just talking about such a business purpose for IRS purposes, but for investment purposes, such as "has this thing made money?" and "has it ever paid back the investors' principal?". When a very big tax loophole gets lobbied into existence, legitimate businesses will be built which also accommodate it, and then sometimes more exploitative types come in, for the big, quick bucks which might be hustled. No specific characterizations of such intended here, but generally, it should always be a concern if it is your money that is involved. When the tax consequences of a transaction, or a use of a specific intermediary look to you, as a lay person, to be the key drivers, rather than the making of a profit or gain, then, caveat emptor.

Another lesson, for business owners such as the person mentioned in the story, is to surround yourself with reputable people, to run something like the transaction described in the story by both your lawyer and accountant, and listen to them.

Seek real diversification, not just apparent diversification, when you can. If one thing goes very badly, will you be washed up?

Finally, if in a situation somewhat like the one in the story, if there is not a way to get the favorable tax outcome you would prefer, a way which passes the "smell" test, look for a fall-back approach, perhaps a less aggressive approach, with a still pretty good outcome. Beware people giving you a hard sell on some sure-fire tax-avoidance scheme, which just happens to compensate them handsomely. Ask how they are compensated! Demand specific written disclosure! The proposed actions might look like tax evasion, not tax avoidance, to the authorities. There's a world of difference. Even when the "intermediary" doesn't lose or steal your money.

Bloomberg.com: Exclusive

'Barclays may sue to recover losses at Bear Stearns' -- MarketWatch

Barclay's was an investor at the now-worthless Bear Stearns' High-Grade Structured Credit Strategies Enhanced Leverage Fund? Well, for Pete's sake. They were also a lender to the fund. A conflict of interest? And they are suing to get their investment back? As a lender, would you expect then to have had more or less information about the status of the fund than the retail investors? This will be interesting to watch.

Also, per a WSJ subscription-only article, Barclays Spars Over Its Losses at Bear Stearns it now seems that some of the investors were not happy with what turned out to be pretty radical levels of leverage employed at the fund, but were trying to juice the returns by borrowing part, perhaps half, of their investment in the fund from a bank. In essence, investing in a hedge fund on margin. I personally just have a hard time working up much sympathy for anyone who would treat their own money with such contempt. How could anybody do that?


Barclays considers options for recovering losses at Bear Stearns - MarketWatch

Bear Stearns Investors Await Tally on Losses -- WSJ

This is ugly: "Investors in two Bear Stearns hedge funds will have to wait until as late as July 16 to learn how much money they have lost." That's to learn what the damage is so far. It did not say that is what they will receive back, or when that will be. As I noted last week, investors in these funds could be said to be locked in like steerage passengers on the Titanic.

Uglier: "Investors are watching the process closely because they believe that other hedge funds also are holding thinly traded mortgage-related securities, and they want to see how far Bear thinks their value has fallen."

And who is invested in all these funds? Pension funds, seeking juiced returns from the large-brained super-traders at the hedge funds. Accredited investors, who are soooo sophisticated. Right. They bought these things. Investors in hedge funds-of-funds, who may not necessarily be accredited investors. Caveat emptor.

Readers of John Mauldin's weekly e-letter got a good bit of detail on the attempted auction by Merrill Lynch of the some of the portfolio holdings of the Bear Stearns funds. No bids on much that was offered. Really ugly. Mauldin's e-letter is free, always good in that it's well written and he actually must be large-brained, not that I agree with all or even most of his conclusions, and viewable on his site, but you have to register. Here's the site.


Bear Stearns Investors Await Tally on Losses - WSJ.com

New Yorker: Hedge Clipping - get above-market returns on the cheap? "FundCreator"

Remarkable article. A few good quotes:

"Funds of funds hold stakes in a variety of hedge funds, so they are somewhat safer. However, as the executive made clear to Kat, investing in them is costly."

"...people who invest in funds of funds are effectively paying a three-per-cent management fee plus a “success fee” of thirty per cent 'three and thirty.' ”

“ 'Who wants to pay that kind of money?' Kat asked the executive who was interviewing him. 'You can’t seriously expect there to be anything interesting left after somebody takes out three and thirty.' The executive was nonplussed. 'I don’t know,' he said. 'But they pay it.' ”

So Mr. Kat sets out to craft a program to replicate specific hedge funds, such as George Soros' Quantum Fund NV. This is where it gets interesting.


The World of Business: Hedge Clipping: Reporting & Essays: The New Yorker

In today'a WSG: Brit Hedge Fund GLG Settles Short-Selling Accusations

The SEC's claim is that GLG, which purely coincidentally is going public itself, made illegal short sales in connection with 14 public offerings.

You know, you could almost do a "Hedge Fund Scandal of the Day".

I have a modest little proposal ...

Might I suggest: Before anyone invested in a hedge fund, what if they asked for and require written statements by authorized persons that the fund has not and will not violate short selling rules, has not engaged in and will not engage in or collude with other hedge funds in attempts to manipulate the market, has not and will not falsify its reporting to clients, will not lose most of their money and abscond with whatever is left, or engage in any other illegal practices whatsoever, and that the fund will disclose upfront how much leverage it will use and will not exceed that amount of leverage. Perhaps the fund should also be required to produce objective proof of its claimed superior trading skills!

Just a modest proposal. We might also add sort of a scarlet letter concept, a simple English one page disclosure of every regulatory scrape the fund or its executives have ever been in, however they might have been resolved.


GLG Settles Short-Selling Accusations - WSJ.com

More on the Bear Stearns Mess -- Investors like Steerage Passengers on the Titanic?

Do you remember reading how the steerage-class passengers on the Titanic were locked below decks and could not get up on deck until all the lifeboats were gone?

"The decline turned into a tailspin last month when Bear Stearns Asset Management, which had more than $29 billion of 'structured-credit assets' as of Dec. 31, suspended redemptions in the Bear Stearns High-Grade Structured Credit Enhanced Leveraged Fund ...
Barring investors from withdrawing money from a hedge fund typically is the first sign of an impending collapse."



Bloomberg.com: Worldwide

Falkenstein/Mahalanobis takes apart Private Equity

With the understanding that I don't think we are in a broad market bubble, this is a pretty good, succinct quick take on the problem with private equity. There is not much meat in that sandwich. The guys behind the counter are eating it up.



Mahalanobis

Back Again! Equity Index Annuities' Sold to Old People Generating Lawsuits

The fact that these things have significant commissions has absolutely nothing to do with that salesman's desire to sell you one. Whether you will be happy with it several years from now -- well, he'll still have his commission, won't he? You need an investment advisor who is a good fiducuary. Hat tip to the always interesting Kirk Report.



Equity index annuity insurers are facing more lawsuits - InvestmentNews

"E-Gold charged with money laundering" -- from SecurityFocus blog

This looks pretty bad. Interestingly, it is an example of how removed from big moneycenter towns (alleged) internet crime can be, in this case, those financial hotspots, Satellite Beach and Melbourne, Florida. And the (again,) alleged criminal mastermind, an oncologist? Well, it is Florida. If the charges are true, and the story looks pretty damning, this may take something of a bite out of money laundering. Be careful, very careful, when moving money online. There still is value in dealing with established, universally-known, trusted businesses.



E-Gold charged with money laundering

MarketWatch: 'Pollyanna', 'Americans refuse to confront dark side of retirement'

How about you?

A few of Mr. Powell's points:

"More than seven in 10 Americans are either 'very confident' or 'somewhat confident' " [regarding the adequacy of their retirement funding.]

"Yet almost half of workers have less than $25,000" [saved, excluding home or defined pensions]. This stinks. Your pension, if it comes in and stays reliably funded, may not be as much you think it will be. Are you married,and planning to get the 'pays as long as either of us is still alive' option, the amount you get will be reduced by perhaps a fourth. A fourth. the alternative is worse. Don't, please don't (guys) shaft the wife of your youth by taking the single-life option. (Individual circumstances might alter this. I'm talking about the normal case here.) If you do that, then die first, then she is without that ongoing money.

Your social security will only pay in full if you wait until you are 66 or even older. Take it earlier and they cut the payment. Work between then and your 66th birthday or whenever the magic date is for you and they take back a lot. And what you do get from Social Security likely will be "means-tested" at some point. That means you may get less. In other words, if you are not simply destitute, you might get to assist Uncle Sam to reduce his staggering budgetary pressures by getting even less.

The message for those of you in this situation is that you should get very, very serious now about providing for your retirement years. And watch out for the financial services pros who want to cure your apprehension by selling you some cure-all, heavily commissioned wonder annuity. Poor performance, excessive salesman compensation and wretchedly bad disclosure of ongoing costs will not make your situation better. The best solution is learning how to invest well, or, failing that, get some low-fee competent advice. And then you make the very best use of your remaining years in the workforce to get yourself back into the game.



Sunny Americans refuse to confront dark side of retirement - MarketWatch

How Not to Invest! "Econ Prof loses $134 million" & falsifies reports to clients....

A timely loss of memory: "According to a suit filed by the Securities and Exchange Commission last week, the reports that investors received were false and the money invested — about $134 million — is almost all gone. As SEC investigators attempted to question Parish, he claimed to be suffering from amnesia and checked himself into a hospital".

Please, please, please, people, do not ever invest in as gullible a fashion as this man's poor clients. You want to see regular statements from a known third-party asset custodian, or maybe audited numbers in some very few cases. If it just seems too good to be true, it probably isn't. You want to know where the alleged trading is taking place.

From Inside Higher Ed, via Michael Stastny's Mahalanobis Alpha Omega blog

MarketWatch's Chuck Jaffe: "Hold everything - here's how your banker lives off the float even if you can't."

Yes, it is rather outrageous. You've written the check, the money's gone from your account, but it's not there at your payee yet. Overnight interest rates being the way they are, don't look for much improvement. Funny how a pretty evenly balanced Congress gave relief to the financial intermediaries, and left us voters out twisting in the wind. It is typical behavior for a financial services industry which has a lot of clout. A lot of clout. On a similar note, how about the electronic, online bank payment you make, when the money is gone that day from your account, but the payee needs two business days (plus perhaps a weekend) to "process" the payment? Sweet, for them.

Your obligation is to know what's going on. You may not be able to do much about it, but you have a better chance to cope, if you stay tuned-in on the discussion. Time really is money.



Here's how your banker lives off the float even if you can't - MarketWatch

Scott Adams' Dilbert: Wally visits a financial advisor

(link is below.)

And he finds a guy you really should not even think of trusting with your money. I think I foresee some fun with this motif in upcoming days.

Preach it, Scott! Let's see what Wally is offered. First, we have a two percent advisory fee (some are about that high; there are brokers out there with wrap programs in that area. Some advisers are much more reasonable, starting under one percent for the smallest accounts accepted.

Next, "...things that sound good if you don't look into them too closely." Yep.

Next, (interpreting the advisor's spiel some, 'an actively-managed mutual fund which trades a lot.' So Wally gets insufficient diversification, lots of volatility, a wild ride, and probable overall poor performance over time.

Now skip almost to the end: "a big front load". On top of an advisory fee. Deplorable. A compliance issue? Don't think that this never happens. I have seen one advisor tacking on a one percent annual advisory fee on top of the big commission he got for selling limited partnerships to people. The same money. An ongoing advisory fee on a heavily-commissioned "investment product" that is illiquid, not even a marketable security.

The crowning glory of it all: Poor Wally is a clueless client. He's not stupid, and he is definitely self-interested. Dilbert readers know that! He just doesn't know. I want you to know. Your future is at stake. Do not be like Wally: Educate yourself. Great clients (for ethical practioners,) or great individual investors study, and read, read, read! You could start with anything you can find by Burton Malkiel, John Bogle, Andrew Tobias, William Bernstein, Charles Ellis, or Larry Swedroe.



dilbert2008145770314.gif (GIF Image, 600x208 pixels)

Bloomberg: "Hedge Fund Copycats Catch Mutual Fund Buyers as Returns Dwindle"

Back to a little blogging, after some time away. The linked article focuses on long-short, or market-neutral funds, now being sold to investors with much less in investable funds.

A couple of quotes:

"[S]ubpar performance isn't stopping the world's largest financial institutions, including UBS AG in Zurich and JPMorgan Chase & Co. in New York, from chasing higher fees by offering copycat hedge funds to people with as little as $1,000 to invest. Assets of the so-called long-short funds almost doubled to $16.5 billion in the U.S. in the past two years, according to Financial Research Corp. of Boston, which tracks money flows."

"'A lot of people buying these funds don't know what they're getting into,' said Ross Levin, 47, president of Accredited Investors Inc., an Edina, Minnesota-based financial advisory firm that oversees $650 million."

My take:
If you do not understand what you are getting into, don't get into it. Just don't. Ask for another explanation. Ask questions about how much you could lose. Insist on a clear answer. If it is a hedge fund-type of investment, you might ask how much leverage is used by the fund. The honest answer here is likely to be "I don't know. They don't tell." If your advisor or broker cannot or won't tell you how much leverage is used, you should know that more leverage involves more risk of extreme results, including extreme losses, and that even the SEC is having a tough time finding out how much leverage some of these funds are using. Ask him to tell you how this investment is safer than Amaranth, which "blew up", or Red Kite, which experienced severe losses when highly leveraged trades went bad. Or Pirate Capital. Ask him exactly how much he gets when you buy this thing. Ask him if he is being pushed or incentivized to sell it. If it is on some kind of list of things they wish him to sell, ask him if this is a conflict of interest. you might write down his answers, just as he gave them to you and ask him to sign it. He will not like that! Most likely he'll say that he can't do that!

You might ask how compatible this investment is with your risk and volatility tolerance. If you do not like the answers, it is OK to say "No". It's your money. The rep or advisor won't give you one dollar back out of his pocket if this thing hurts you financially.


Bloomberg.com: Exclusive

Chuck Jaffe's Back with another "Stupid Investment of the Week"

This series of his is always good. Well, I thought it, and this once I'll write it. Is there a particularly hot place in Hell, well-populated by the lowest, worst sort of insurance salesmen?


You're better off rejecting 'guaranteed acceptance life' policy - MarketWatch