30 Chapters
Medium 9781626561625

Contents

Edesess, Michael Berrett-Koehler Publishers ePub
Medium 9781626561625

Deadly Temptation #2

Edesess, Michael Berrett-Koehler Publishers ePub

We told you in Rule #3 that if someone—a friend of yours, perhaps—tells you that a particular broker or financial advisor has done very well for her clients, and you should consider hiring her, you should tune it out. Wouldn’t it be great, though, to have someone take care of your investments? They would grow nicely, and you wouldn’t have to worry about a thing. It sounds very comforting to have someone just deal with the whole realm of investing for you, especially if you’re convinced it’s all too complicated and you just don’t want to think about it.

But is it worth giving up one-third to three-fourths of your investment gains for this comfort? If you knew that another, lower-cost advisor—offering simpler, less technical-sounding investment advice, or even no advisor at all—would provide you half again to three times more in investment gains, then how comfortable would you feel?

Because that is, indeed, how much it costs—even when the cost appears low as a percentage of your assets. Let’s go through the numbers to show what we mean.

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2 The Extraordinarily High Cost of Investment Advice

Edesess, Michael Berrett-Koehler Publishers ePub

Some years ago my cousin Bob, an oral surgeon in a midsized American city, told me someone was trying to sell him investment services. He wanted my thoughts on the matter.

A woman in his city, a local consultant with a large national investment brokerage firm, was calling him regularly to convince him to place his pension fund’s assets in her company’s wealth management program. Bob seemed to be responding to the marketing effort. He was considering entrusting the pension fund assets—about $1 million at the time—to the brokerage firm for advice and management. But he knew I might have a different view, and he wanted to know what I thought. Also, he knew I had a business involvement with her brokerage firm and thought I would be interested to know about the calls.

First, I told Bob never to tell anyone at the brokerage firm that I told him this. At the time, I had a fat contract with the firm. Its consulting division was making heavy and expensive use of a computer system in which I was a 50 percent partner. I had a good relationship with—and liked—the employees at the firm that I did business with, the people running the consulting division. Bob’s suitor presumably worked for that division. Of course, I didn’t want them to know I was working at cross-purposes. But I also didn’t want to give my cousin a bum steer.

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6 Why Investment Professionals Can’t Predict Markets

Edesess, Michael Berrett-Koehler Publishers ePub

In previous chapters, I’ve shown what professional investment advice and management costs. Now I’ll show why it doesn’t benefit you—that is, why it doesn’t increase your wealth.

In this chapter, I’ll explain the very sound reasons why professional investment managers should not be expected to beat the market. Then, in the next chapter, I’ll describe the extensive evidence that shows that, indeed, they cannot.

Suppose you were asked which investment manager you would like, one who tries to beat the stock market average or one who is content just to equal it. What would you say?

“Well, it depends on the cost” is the best answer. Is it worth spending more than a minimal amount to try to beat the market?

As I explained earlier, managers of equity investment assets are divided into two main categories. Those who try to beat stock market averages are called active managers. Their practice is called active management. Paid investment advisors typically recommend higher-cost, active managers.

Those who do not try to pick stocks to beat the market averages are called passive managers. Their practice is called passive management.

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4 Taxes Down the Drain

Edesess, Michael Berrett-Koehler Publishers ePub

In January 1994, I spoke to a small gathering of the superrich at the behest of the Northern Trust Bank of Chicago. I was a speaker at their Family Financial Forum, which was held at an extremely opulent hotel in Dallas.

“Family Financial Forum” sounds like a nice little gathering, perhaps with tea and cakes, that you might have one evening at your local church or community center. But that’s not what this Family Financial Forum was. The average wealth of the families represented at this forum was $400 million. This was not your typical community group.

The wealthy were represented either by family members themselves or by their staff, or both. Most superrich have family foundations managed by hired staff. A few of the people at the conference bore names that would be recognized for their wealth, but most would not be known to the general public.

Northern Trust spared no expense rolling out the red carpet for these, their most well-to-do clients. There were two “name” speakers. One was Dick Cheney. At that time he was known primarily for his understated televised briefings as secretary of defense during the Gulf War in Iraq. He was frequently mentioned as a possible presidential candidate. He seemed, in person as in his television briefings on the Gulf War, understated and modest.

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