It's an Inflammatory Read, and it Should be!

So, the shareholders are taking it on the chin, and the directors are doing their usual marvellous job of protecting the shareholders' interests. Management? Big bonuses at Goldman, as usual. And, as the article points out with remarkably restrained words, when an chief executive is forced to go, like at Merrill or Bear Stearns, he gets to keep his stock options. Look closely at the following beautifully, bluntly honest quote:

"The employees and executives at Bear Stearns own a significant portion of the firm; as such our interests are closely aligned with outside shareholders,'' company spokesman Russell Sherman said. ``We are intensely focused on delivering value to our shareholder base.''

By making themselves as big a part of the stockholder base as they can???

I'm waiting for an ETF holding profitable companies with dividends, without larcenous stock options programs camouflaging dilution by stock buybacks, and with directors militantly committed to defending stockholder interests, specifically minimizing management influence over the board. Haven't seen one yet!. We've got everything else! If the name isn't taken, they could call it the Governance Leaders Fund! An ETF with contrary practices could be called the Sticky Fingers Fund!


Bloomberg.com: Exclusive

WSJ (subscription) "A Cool Million No Longer Buys You a Luxe Retirement"

Yes it's old news, in a sense, but don't give up!

If you are young, a few simple actions will make your future much more comfortable. Use your opportunities for tax-deferred investing. Put enough into your 401(k) to get any available employer match. Contribute to your IRAs, both traditional and spousal.

Go beyond tax-deferred. If you can, put something, say, one hundred dollars a month away, for the very long haul, not to buy a flat-panel TV. To get started, put the money in a savings account. Then, when practical, in a taxable brokerage account. Learn how to invest the taxable account money for the long haul, not the fast buck, not as "mad money", and in a tax-efficient way.

Avoid becoming financial-services road-kill. Avoid load funds like the plague. Like the plague. No-load mutual fund accounts, at the fund, are one good way. Companies such as Vanguard and T. Rowe Price are known for low expenses and good investor-friendly values. That's not a commercial, just the truth. I'd suggest avoiding the mutual fund companies which advertise over and over all the day long on CNBC and Bloomberg. Big ad budgets are paid for in high expense ratios! You want financial service pros whose highest priority is good client outcomes, not client-gathering marketing. Never go to an investment "seminar" even to get the free meal. It will really, really cost you. Don't invest through variable life or variable annuities, they're usually heavily-commissioned, "fee and expense you to death", poorly-performing, all around sorry deals. As you might have guessed, I don't like them much. Stir well, wait patiently while it simmers for twenty-five or thirty years, and voila! Magnifique! If at some point along the way you want a financial advisor, find one with low fees who doesn't sell commissioned investment junk products, and emphazises good fiduciary standards.


Getting Going - WSJ.com

Morningstar: 12b-1 Fees Must Go

Kudos to Morningstar for this! As they note, it really is this simple. Investors are very poorly served under the present 12b-1 fee situation.



Morningstar.com - Memo to SEC: 12b-1 Fees Must Go

MarketWatch: "Hedge funds have lost 'alpha,' Merrill director says"

Managing Director Heiko Ebens says, "Alpha has essentially disappeared", from hedge funds as an industry. Alpha is academic finance jargon for returns of a comparably risky investment beyond those of an appropriate market benchmark, or index. in other words, a manager with good results adds alpha, but a poor one generates "negative alpha".

"Ebens argued on Tuesday, in front of a stonily silent audience, [emphasis added] that most hedge fund returns come from the broader markets and can be replicated by indexes constructed, coincidentally, by Merrill...."

"Ebens touched on a sensitive subject for the hedge fund industry. As assets have ballooned and more managers have entered the business, some argue that increased competition for a finite number of trading opportunities has dented returns. If that's true, the high fees levied by hedge fund managers may no longer be worth paying."

Indeed! Read the article.



No 'alpha,' Merrill director tells hedge fund conference

SEC to 'Review' 12b-1 Fees -- MarketWatch's Robert Schroeder

So, may I ask, once you've invested in a mutual fund, by what logic should you be made to pay toward the fund's ongoing marketing and 'distribution' costs? That's what a 12b-1 fee is supposed to be. And why aren't those costs just part of the business expenses of the fund company? Actually a 12b-1 fee is sort of a "trail", an ongoing, never-ending commission adding to your broker's profits, and reducing your account value. The SEC should stamp 12b-1 fees out of existence.

"Funds collected $11 billion in 12b-1 fees last year".



'High time' for fund-fee review: SEC's Cox - MarketWatch

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

Bloomberg: "Merrill Rule Decision Will Force Key Disclosure" -- John F. Wasik

More on the decision. Wasik writes: "When you venture into the murky waters of financial advisers, do you know who is a trained planner representing your best interest and who is a salesman?"

The one representing your best interest is, in other words, a fiduciary. The one who is a salesman is a broker.



Bloomberg.com: Opinion

Bloomberg's Mysak on the Lazard Scandal -- 'Fiduciary Duties Violated', 'kickback scheme'

Mr. Mysak says this one will provide more reading in the days to come.

None of this kind of thing would happen if people could find a way to settle for a good honest profit. "We can get more..." the first step on the road to fiduciary disaster.



Bloomberg.com: Lazard Scandal of 1990s Tells Tale

Appeals Court Strikes Down SEC’s ‘Broker-Dealer Rule’, aka 'The Merrill Rule'

This is really, really important. Brokerage services, which may involve "incidental" advice, are the service of buying and selling. You can spin that, you can invent new names for the same old deal, you can work hard to keep the client willing to pay, but it still is buying and selling. Brokers are not, repeat, NOT fiduciaries. A fiduciary advisor places your interests ahead of getting a big commission or his own needs. He makes a good living because enough clients are wise enough to find him. The built-in conflicts of interest for a commission or "fee-in-lieu-of-commission" (wrap account) industry dictate that it is that way. Investment advisory services are a completely distinct thing. It's about time. The Financial Planning Association is happy. The big brokerages are going to have to change some things and perhaps change some thinking. it will be interesting to see how they spin it to the public. it's about the public, really, not the advisors and the brokers. People should be able to know what they are paying for: Trading, or advice. Of course, an appeal by the brokers to the US Supreme Court is possible, and would stave off implementation. Whether that would be well received by the investing public is open to question.

Quiz: Do you know what type of arrangement you have with your broker or investment advisor? Are you clear on the difference between paying for investment advisory services and say, a wrap account? a low-fee advisor will typically charge you less than the typical charge for a wrap account, or for a separately-managed account ("SMA") deal, two types of deals pitched often by brokers.



UPDATED BREAKING NEWS: Appeals Court Strikes Down SEC’s ‘Broker-Dealer Rule’: Financial Planning Association wins lawsuit to nix Merrill Rule and subject all fee-based accounts to regulation by the Advisers Act of 1940.

What do You Think of the Dow Theory? What do the Researchers Think?

For those who are into the Dow Theory version of technical analysis, Mark Hulbert at MarketWatch has a bit of a review, which I've linked to below, including the interesting note that the three Dow Theory newsletters do not agree on what it says about the present state of the market and the outlook. two are bullish, and the third is bearish. Now stop and think on that for a moment.

Hmmm. Academic researchers pretty much "busted" the Dow Theory decades and decades ago. Mark does refer to one Journal of Finance article all the way back in 1998 which argues for its validity. I don't know if anyone other than the authors was convinced! The Dow theory, like technical analysis generally, has pretty much been in the academic dumper for a generation now. When you test it, it consistently fails to succeed any more often than dart-throwing at the Wall Street Journal.

So, why do people cling to ideas after they are tried in the crucible of research and found to fail? Is it a matter of human nature? Of needing something on which to base decisions? Two things are definitely true. First, the folks who sell newsletters have a conflict of interest. They make a lot of money selling those newsletters. Second, Wall Street's brokerages like clients who trade a lot, be they big hedge funds or little guys investing on their own with newsletter in hand. They have a conflict also. Trading is money, commissions and/or spreads (discounts or premiums, technically,) on crossing transactions to them. Applying a technical analysis-based approach requires a lot of trading, generally. Being as gentle about this as possible, they are self-interested, and the consequences of conceding the failure of technical analysis would be somewhat difficult, particularly for the newsletter writers.

Also, what do you base investment decisions on, if this old, once-popular approach is not really any good? I have advocated in this blog a globally-diversified, multiple asset class approach, using indexed vehicles at least as the default choice. This approach has excellent research support. Well, you may ask, it this idea is so good, why isn't everybody doing it?

Mr. Roger Gibson wrote one of the most remarkable books on investing, primarily for financial advisors, Asset Allocation - Balancing Financial Risk. (3rd. ed., Mcgraw-Hill, 2000.) He writes of what he calls a "quadrant 4 worldview of investing", where the investor, after reviewing what is known about the realities of investing, concludes that neither market timing nor active security selection (stock-picking, for us,) will succeed over time in beating the market. The quadrant 4 worldview is in good accord with the consensus of a mountain of objective financial research. So he writes on the implications of a quadrant 4 view:

"First, a quadrant 4 worldview undercuts to a large degree the reason for the existence of the money management profession." It means that the billions and billions of dollars in fees and expenses investors pay to keep up the lifestyles of the cast of thousands employed in attempts to beat the market are largely wasted. Worse than wasted actually, as what you get for trying to beat the market these ways is that usually you do worse than the market, when all the costs are counted. So, who at your local wirehouse brokerage or online broker is going to tell you that!

They don't even typically talk about that to each other. What newsletter writer is going to want to face that, much less tell you?

The beauty of the "quadrant 4 worldview" is that it lets you, knowing the score, knowing the reality of risk, use market forces rather than fight them. it lets you invest in hope based on what is real! Market returns over time have been good enough to be really worth going after. And wouldn't you, when you think about it expect it to be that way when all is said and done?





What the Dow Theory has to say about current stock market - MarketWatch

Required Reading: Bloomberg - Mutual Funds Get Busy Signal From Analysts Chasing Hedge Funds

So, when is it fair to say that the brokerages and their hedge fund clients are joined at the hip?

The only good side to this situation is that most of the sell-side analysts are just adding negative alpha anyway, so if there are fewer of them and they are mostly giving the fruit of their labors to hedge funds, ...? Will regular folks see better returns? Seriously, I would venture that the actively managed mutual funds worth owning do more of their own research than the rest of them, so they may not so impacted by the big brokerages giving favorable treatment to the hedge funds. So, when will the rest of the mutual funds start pulling their business and giving it to some brokerage which will appreciate it?

When will the clients become cognizant of this? You cannot be a clueless client!


Bloomberg.com: Exclusive

'A Slugfest Gets Uglier' -- Washington Post

The story is by Steven Pearlstein, and is about a noteworthy fight between one company and the hedge fund which shorted its' stock. There are no angels visible in the story.

A quote:

There is disturbing evidence, for example, that hedge funds make some of their money by trading on what most laymen would consider inside information. There are entire firms devoted to obtaining proprietary information from present and former employees of companies, suppliers and contractors. Others have approached researchers offering to pay for an early peek at drug-trial results. Hedge funds reportedly spend big money for lobbyists who might tip them off to major legislative developments before they happen. And just this week, the SEC announced that it was investigating whether hedge funds had received tips from investment banks and brokerage houses about coming trades or merger announcements.

Steven Pearlstein - A Slugfest Gets Uglier - washingtonpost.com

The lesson from all this? Find the most honest people you can to deal with. What on earth next? Is there anything past the pale for these guys?

Remember, "you cannot con an honest man." Be the honest man, or woman. If an investment purveyor claims the ability to make you shockingly big returns, and has no better explanation for "how?" than his claimed larger, highly evolved brain, and implies politely that his ways are just too complex for you to understand, well, gee. Consider saying, "no thanks." and find yourself some more transparent approach to investing money.

Mutual Fund Directors are Supposed to Represent the Investors, but ... Wellllll

SmartMoney should get a lot of credit for stories like this one and the last few I've linked to, instead of puffy, fluffy stuff. If you use mutual funds in your own investing, you have an interest in this issue, and should have some knowledge of the governance practices at "your" fund families. Silence is bad for your financial well-being, but ignorance is the worst. How they run the fund you're in should be part of your ongoing evaluation of whether you stay with it.

You can Google the Fund house's name and the word "governance", or just search a few of the major personal finance websites, (like SmartMoney's!), or Yahoo Finance, Marketwatch, MSN Money, for example. Morningstar.com has material on this, but it's in the premium section, not free (sorry, folks.) If you don't like what you see, you can always politely communicate with the fund, and let them know. When the numbers look meaningful to them, the better ones will respond. If they do not, you might owe it to yourself to consider searching out a better alternative, or let the person who put you into that fund know you are disappointed. He or she has obligations to you regarding this.

Three Years Later, Fund Governance Lacks Reform (Fund Insight) | SmartMoney.com

Wasn't the Hoary Old Dow Theory Busted by Researchers Decades and Decades Ago?

Yes it was. It doesn't work. Just like every other publicly-disclosed charting strategy, when subjected to objective research, it fails, or succeeds randomly, same thing. Oh wait. There was one study, involving a trend-following approach, which suggested some mildly exploitable characteristics might exist, before taxes and trading costs. But not after. El Dorado is still not there. BTW, you do understand, that if it worked fifty percent of the time, you could do as well with coin flipping, right? These "charting" approaches can all be considered to be in a busted condition.

Sadly, the big brokerages sometimes still keep a few technical analysis research guys on staff. Technical analysis "systems" can produce frequent trading, and thus commissions. Guess which brokerages are officially on record that an entire body of objective research exists establishing that technical analysis, or "charting" does not work. I do not know of any. I do think that if sizable numbers of people were into trading based on animal entrails analysis, you would see brokerages adding staff with experience in that area and competing for their business.

There is a time and a place in this world for the exercise of faith. Technical analysis has never been shown by objective research to be a suitable object for the fervent faith placed in it by its disciples. Its use can cost you money, time, and lost real opportunities.

There are things that have worked in investing. They are not secret. Work is required to learn and employ them. They take time, and are not splashy. Charting is not one of them. Charts can beautifully explain what has happened, or illustrate a point, but have zero predictive value. Zero. That's not opinion, but the consistent conclusion of a mountain of research papers by many brilliant academics.


Transports hit new high, triggering Dow Theory buy signal - MarketWatch

Bloomberg: "Henry Blodget, Big Pal of the Little Investor?: Susan Antilla

Awhile back I wrote a post about several serialized portions of Henry Blodget's new book. Susan Antilla of Bloomberg does a good job of reminding everyone just what Mr. Blodget did that got him fined and "moved to the sidelines", as I put it in that post. I could have said some more on that. His book, as she notes, has good general advice in it, and I would say that it could help small investors do better than they can on their own. What he did back in his heyday was very wrong, and it did hurt people. We should be aware that there are very probably others still working in the industry, with similar propensities.

As Ms. Antilla says, "Wall Street can be a hazardous place for the trusting individual investor." Apt, important words. Keep her caution in mind the next time someone pitches their very special heavily-commissioned investment product to you.


Bloomberg.com: Opinion

Chuck Jaffe's "Stupid Investment of the Week - Few pluses in Morgan Stanley's 'structured' product"

Mr. Jaffe's story is here.

I just want you to look at the story, and stop at the word "cap", and ponder for a moment how you would feel if you had something like this in 2003, and your well-invested friends had made 35 percent on their equity holdings, and your statement, perhaps in a footnote, explained again for you how your 'double-the-upside' investment was "capped at a maximum index gain of 6.75% over the 16-month term. Double the gain to reflect the leverage and the maximum gain is 13.5% over 16 months." (Mr. Jaffe's paraphrase.)

There is no cap on the downside, of course.

My very general advice on things like this: Life, especially life in your dealings with the world of financial services, is not a visit to a candy store. All that glitters is not gold. Things with complex characteristics like this are usually made to sell. For salesmen, to sell to you. For a price. Caveat emptor.

"UBS' Leases to Hedge Funds Are Questioned" -- NY Times

What's next?


Banks’ Leases to Hedge Funds Are Questioned - New York Times

Apple & Steve Jobs & Report of Faked Option-Grant Dates

I guess you could think of this as an opinion/editorial. And while the link is to today's story about Apple, Apple is just one company, and many companies are involved.

When games are played with incentive stock options the stockholders get shafted.

Public Corporations 101

Many stories on this sort of thing lately. Each one is reflective of management with the directors' connivance, in essence plundering the stockholders' property (the profits). The Unknown Advisor holds to the old-school idea that the corporation's profits belong to the stockholders, not management. Ideally, they should be either retained and plowed back into the business in an intelligent way or paid out to the owners as cash dividends, not stuffed into management's pockets through options programs. These programs are passed at stockholders' meetings when stockholders don't care enough to vote, and when the corporate directors act in a way to primarily serve the interests of management, not the real owners of the corporate enterprise. All too often, the directors are management. Directors are supposed to hire managers, not be the sycophants of managers or even the managers themselves. These days there are supposed to be some "outside" directors, to help deter, among other things, an unhealthy relationship between the managers and the board whereby the interests of the shareholders get subordinated to those of insiders.

Backdating of options grants. Repricing of options. Packing corporate boards with management sycophants. Resistance to expensing options. Stock repurchase plans that merely serve to mitigate the dilutive effect of the options programs, not to really raise share prices. Do we have enough problems with this subject, or not? This can be an opportunity for shareholders to assert themselves.

I would support mandatory big typeface, bold letter disclosure in each annual report and proxy mailing of the percentage of the corporation's profits going to highly-compensated individuals and to all employees through actual and proposed incentive and employer stock options programs. In the [alleged] words of Senator Hillary Clinton , back from her First Lady days, [there would be] "hell to pay". I would also support voluntary corporate stewardship initiatives at mutual funds and institutional shareholders in general to vote "NO!" on any corporate resolution involving portfolio shares held which would divert more than ten percent of the corporate profits to fund these programs. Small-caps would presumably need an exception on this. What say you, readers?


Apple's stock falls on report of faked option-grant dates - MarketWatch

"Fidelity to Pay Funds $42 Million After Gifts Review (Update2)" -- Bloomberg

Say What?? Chartered flights, expensive wines, golf clubs, tickets to Wimbledon and the Super Bowl? Pre-game parties put together by Maxim and Playboy?

The $100 annual limitation on the value of gifts -- exceeded when Fidelity's employees took items such as those above from the brokers who had benefited from trading commissions on Fidelity Funds' trades -- is there for a very serious purpose. It is to prevent a "tit-for-tat, you scratch my back, I'll scratch yours" cozy situation from getting out of control, to the detriment of the funds' investors. And was this a gray area? Did it require geniuses to figure out that this was not allowable? Did anyone at Fidelity object at the time? Say "no thank you, I cannot do that"?

Bloomberg.com: Worldwide

It's a Matter of Honor

It's a Matter of Honor - Updated

Morgan Stanley's in the News: "Securities regulators charged Morgan Stanley DW Inc. with failing to hand over millions of e-mail messages to investigators and plaintiffs by falsely saying that the documents had been lost in the Sept. 11, 2001, terrorist attack on the World Trade Center, according to a complaint filed yesterday." -- The Washington Post.

Firm Accused Of Deleting Missing E-Mail - washingtonpost.com

Things like this seem to crop up sometimes in the news with regard to the big wire-house brokerages. All of them. Not just Morgan Stanley, which I presume is no worse than the others.

They will pay the fines, promise not to do that anymore, fire the culprit, and move on. People are usually held accountable within the organization, so what's the problem? Should the organization not also find and deal with the managers who tolerated those culprits, who promoted, incentivized them, or even supported them in the offending behavior? Is it that the management is not really accountable? Managers are supposed to know what is going on. They either know what is going on, or they are not up to the job. So who ordered all those emails to be deleted, or was silent while it was done?

I have a problem with organizational cultures which do not build in honor, and I don't think I'm alone. Old-fashioned honor. Honor as a prerequisite to advancement or even retention within the organization. It's easy to see if someone is tall, handsome, dresses well, has great connections, and is articulate; and those are not bad things. But they don't mean anything at all if there is no honor. It is not so easy for a manager to see if someone will tell the truth even when the organization doesn't particularly care to hear it. A manager would have to be on the hunt for distinctly honorable behavior, noting it, supporting it. If the organizational culture would see such conduct as foolish, then, well, what you have is an organization which will show up in the news at some point, and an organization which may do things which affect client financial outcomes.

This is pretty radical, I guess: Anyone who puts himself in the position of advising someone else on financial or investment matters should have a pretty serious case of values, and honor, and try very hard to do their work in a way that generally reflects those things. We are all of us imperfect, error-prone people, but there is such a thing as choosing to try to do your best to do things the right way.