By: John BurkecloseAuthor: John Burke Name: John Burke
Member: Member Paladin
Quality Rating:
Email: jburke@starboardasset.com
Site: http://paladinregistry.com/external/beaninformedinvestor/advisor_profile.php?advisor_id=2874
About: See Authors Posts (3) | July 13, 2009

The 401(k) world is full of target and life cycle mutual funds which are loaded with high cost and feel good marketing material . These funds do not work in down markets as witnessed by their poor performance last year. They are just another gimmick from Wall Street and the mutual fund industry. According to a recent article in the Financial Times, target date funds geared toward 401(k) participants due to retire in 2010 lost an average of 24% in 2008.

It’s a tragedy that a worker due to retire in two years saw almost one-quarter of their retirement savings disappear. We believe these strategic cookie-cutter asset allocation approaches that pile into more and more bonds the closer one gets to retirement are doomed to additional failure in the years ahead. These static models do not factor in relative strength of asset classes or the fact that inflation may eat away at the value of bond portfolios.

We believe tactical strategies that are able to adapt as the market changes will be of much more value to a retirement portfolio. An argument can be made as to whether the majority of mutual funds really do investors any good at all. David Swenson, the manager of the Yale endowment funds, had the following to say about mutual funds in his book Unconventional Success; "In a depressingly large number of situations, mutual-fund companies crossed the line, moving from immoral acts to illegal behavior.  The mutual-fund management company quest for profits, whether licit or illicit, trampled individual investor interests year in and year out".   He has also said, "Overwhelmingly, mutual funds extract enormous sums from investors in exchange for providing a shocking disservice".  

A recent study by Dalbar showed that individual investors gave away 6.5% of performance every year for the past twenty years due to poor timing and decision making. During this period, the average equity mutual fund investor returned 1.87% versus an 8.35% average annual return for the S&P 500. The reasons cited for the performance discrepancy mainly center around investor psychology issues (i.e. most small investors are not rational in their decision making causing them to panic buy and sell at exactly the wrong time). However, high mutual fund fees certainly did not help the situation.

Compound this performance gap over the life of the average worker and it could very well be the difference between a meager retirement and a comfortable one. Our firm has developed a 401(k) which allows us to bypass the mutual fund industry and the notion that people are able to manage their own money as well as a professional can. Our vision began with the idea of finding a solution to what we feel are structural flaws with the current 401(k) system. It is our belief that a total rethinking of the 401(k) was needed in order to solve the retirement crisis that faces our country.

When 401(k) plans became popular in the mid-1980s, mutual funds simply decided to slightly tweak their legacy IRA platforms. They slightly changed the administration model, but didn’t change the fiduciary relationship with the investor. As a result, the mutual fund industry, not the workers, became the prime beneficiary of the 401(k) system. High fees and profit sharing arrangements enriched many financial industry players at the same time that employee investment performance chronically underperformed.

This industry profit motive has led to complete disregard for fiduciary responsibilities and is a prime reason for the breakdown of the retirement savings system. This abandonment of the novice retirement investor is unacceptable. Our 401(k) platform combines several unique features including; low fees, employee contributions, professional management, tactical asset allocation and fiduciary responsibility. This product functions much like a defined benefit pension plan with a balance-forward annual accounting and a combined asset pool for each company. This is a lot less expensive than the administrative costs associated with daily access plans.

One of our 401(k) clients is a coal company with 50 employees. These hard-working individuals have great knowledge of how to extract coal from the earth, but understandably have little time to devote towards learning the complex world of investing. We take this burden away from them and take on fiduciary responsibility for managing the plan assets. Yet, given the requirements of a typical 401(k), employees of companies like this all over the US have been left alone to choose investments they think are suitable for them. This was why the mutual fund industry originally came up with the concept of "set and forget it" target funds a few years ago. They use simple phrases like target maturity and invest according to your life cycle i.e. age. This is feel-good snake oil salesmanship and is costing the employees of small-to-medium businesses billions of dollars every year.

Dollars that should be going towards worker retirement either goes to financial industry fees or is lost through poor performance. We believe now is the time for companies to take back their retirement plans for the sake of their workers. Let’s cut out the middle man and create a new system that won’t be run for the benefit of the mutual fund industry.

By: John BurkecloseAuthor: John Burke Name: John Burke
Member: Member Paladin
Quality Rating:
Email: jburke@starboardasset.com
Site: http://paladinregistry.com/external/beaninformedinvestor/advisor_profile.php?advisor_id=2874
About: See Authors Posts (3) | June 2, 2009

Our local paper had a headline that four Chrysler dealerships in our area are being closed.  Page three had an article that a local stockbroker has moved from one major Wall Street firm to another and both firms are part of the government bailout program. The estimated bonus the broker group will receive is in the millions for moving $450 million of client assets.  There is something drastically wrong with this picture. 

This is a local view of a national sickness.  Hundreds of jobs are being lost while the bonus money keeps flowing on Wall Street.  These are two sick industries on the dole thanks to our hard earned tax money.  While one is cutting back due to bankruptcy, the other continues to spend like they are a thriving enterprise.  This bonus fiasco is a prime example of why the banks should have been forced into bankruptcy like many of the auto companies.  It is the brokers who benefit from this nonsense, not their clients. 

Investors beware if your broker has taken a bonus check to switch firms.  Most likely, he gets a big payday and you get a great deal of aggravation from a lateral move of your assets.  If you have seen one big Wall Street firm you have seen them all.  The most important thing to look for after your broker moves is excess activity.  Many transfer deals pay the broker extra commissions for a period of time after the move as further enticement. 

Moving annuities from one company to another often takes place after the broker moves in order to accommodate the product line of the new firm.  In-house mutual funds and other proprietary products cannot be moved.  Be very careful that you do not incur new fund charges or commissions.  Don’t be bashful about asking for big discounts on stock trades. 

There are many discount firms that charge seven to twelve dollars to trade stocks, so if your going to move your assets why not get some of that bonus money for yourself.  Think twice before moving. There are alternatives for smaller investors. Vanguard has an S&P 500 index fund which charges low fees and outperforms most mutual funds.  For larger investors, find a fee-only fiduciary manager who does not deal in commissions and bonuses for a living. 

By: John BurkecloseAuthor: John Burke Name: John Burke
Member: Member Paladin
Quality Rating:
Email: jburke@starboardasset.com
Site: http://paladinregistry.com/external/beaninformedinvestor/advisor_profile.php?advisor_id=2874
About: See Authors Posts (3) | May 8, 2009

Prudence vs. Production

The fee-only Registered Investment Advisor (RIA) is legally bound to be prudent. The falsely termed Investment Advisor (Broker) from the brokerage community has very few legal restraints and is primarily obligated to produce sales. There is a world of difference, yet, for the most part, the investing public does not understand the distinction. The basic variation translates into trust. If a commission is involved, the broker is focused on their personal bottom line (i.e. production). When contractual responsibility is accepted, RIA?s must act in accordance with the Investment Act of 1940. This stipulates that the advisor must always put client interests ahead of his/her own. As a result, they have a legal and regulatory obligation to act prudently and disclose all costs. On the other hand, the broker is a salesperson and has a primary obligation to the employer. The client is in a caveat emptor position. The public must be educated to understand this important distinction that has been greatly distorted by the major brokerage firms and the media. The major Wall Street firms are some of the largest advertisers, so it has historically been difficult for the media to criticize them outright. Therefore, the burden of educating the public about the inherent conflicts of interest in the brokerage model has fallen to the RIA community. The credit crisis has started to awaken serious skepticism of the industry, so we are hopeful that more coverage will be devoted to this topic in the months ahead.

Having spent thirty-eight years of my career as a broker and the last five as a RIA, I consider myself well qualified to draw the distinction between these two schools of investment advisory work. Even though I know many well-meaning brokers, the system they work in prohibits them from giving advice without conflict. Recently, I talked with former colleagues about leaving large wire-house firms and going out on their own. Ultimately, they could not bring themselves to cut the cord because of bonus agreements and trail commissions.

The brokerage world has made a bigger push in recent years to offer managed accounts for a fee-in-lieu-of- commission. Given my experience in both camps, I believe the majority of commission-based investment advisors attempting these programs deliver cost inefficiency, tax inefficiency and/or worse than average investment results. Below I list four different types of accounts:

? Straight fee-in-lieu-of-commission account. This is a non-discretionary brokerage account where there is no commissions charged in favor of an annual fee. The SEC has closed several of these programs due to abuses such as too few transactions to justify the fees charged.

? The wrap account. This is where an outside manager is brought in and creates a cookie- cutter portfolio that combines the advisory fees and the commissions. As I see it, there are several problems with these wrap accounts. First, the fees in these accounts can approach three percent per year. Second, these accounts are often loaded with way too many securities. I have seen as many one hundred positions in an account with less than one hundred thousand in capital. This results in mediocre performance and way too many transactions. Finally, the outside portfolio manager invests according to their model without taking into account the tax situation of the client. As a result, the client has a tax inefficient portfolio that is geared towards a much larger institutional account.

? Research managed account. This is an account that is made up of the brokerage firm?s research department recommendations and the brokerage firm?s hand picked mutual funds. No commission is charged, but again, a hefty fee total is involved that usually falls in the two to three percent range because of fee layering.

? Discretionary managed account. These are usually allowed only for qualified brokers that have met certain production levels. It is a separately managed account that consists a broker?s discretionary buys and sells. The fees in these accounts are also wrapped to include commissions and management fees. These accounts don?t come cheap as the total cost can be in the two percent range. The set-up discourages lower fees because if a broker charges less, the firm gives them a haircut on their percentage payout. There are some brokers who do a decent job at this type of management. However, they are rarely competitive on performance or cost with the RIA community.

Major market declines, such as last year?s meltdown, often bring about change. The last economic dislocation on par with the current crisis occurred in the 1970?s. This period ushered in a major change in the way Wall Street and Main Street dealt with their investments and personal finances. From the depths of the stock market bottom came a movement to consolidate the brokerage industry into politically powerful Wall Street Investment Banks. Over the next twenty years, this shaped our entire economy from being largely dependent on manufacturing to a financial service and consumer credit driven system. Provided that the political power starts to shift, we should see a major structural change in the financial services industry from profit driven to one that is driven by fiduciary responsibility. The changes must start with the Securities and Exchange Commission (SEC). Obviously, we believe one of their first orders of business should be addressing the confusion that exists between commission-based and fee-based advice. If they are successful, future American generations will be much wealthier.

Mutual funds and annuities are the mainstay of the major brokerage firms. Unfortunately, they are loaded with so many different fees that the average client does not stand a chance to get any decent long-term capital growth. David Swenson, the manager of the Yale endowment fund, has written a book called Unconventional Success: A Fundamental Approach to Personal Investing. One of his main findings was that over time, ninety-five percent of mutual funds perform worse than a passive portfolio such as the Vanguard S&P 500 Index Fund. In addition, the effects of capital gain taxes make that performance even worse. During a period ending in 1998, which was toward the end of the greatest bull market of our lifetime, mutual funds under-performed by 2.8% after-tax and 2.1% pre-tax when compared to the Vanguard S&P 500 Fund. Variable Annuities, another favored product of the brokers, are loaded with even more additional fees than mutual funds, so the performance comparisons would be even worse. The supposed tax advantage of annuities is of no help since the investor converts capital gains to ordinary income through the deferral process of an annuity. The under-performance of mutual funds and annuities has the potential to wreak havoc with retirement portfolios and send many unsuspecting baby-boomers back to work in the food service industry or as Wal-Mart greeters.

Sales managers are the whips of the brokerage firms; they set the tone and product mix that the firm will be selling. If a broker does not play along, they do not get the accounts that are dispersed when another broker leaves or retires from the organization. The sales managers stimulate production and are often paid on the profitability of their branch. This creates incentive to drive higher margin products. There is an old industry tale of a manager asking a broker to sell a new underwriting and the broker balks, the manager points out that even though it may not be good for the client, it is good for the broker, the branch and the firm and 3 out of 4 ain?t bad?so sell it. Unfortunately, this is not far from reality and results in production ruling over prudence. Therefore, if your investment professional is in the commission or fee-in-lieu-of- commission business, it may be time for a change. Increase your portfolio?s odds of success and find an independent fee-only registered investment advisor.