Profit & Loss - June 2009

My investment firm was sold…

by Robert Barone and Matt Marcewicz

In these troubled times on Wall Street, several major investment firms have changed hands. While there are many reasons for a firm’s sale, in our current troubled economy, two reasons stand out: 1) financial failure of the investment firm itself; 2) sale of a viable asset by the parent company to raise capital. Merrill Lynch was purchased by Bank of America at what appeared, at the time, to be a fire sale price. Citigroup sold its profitable Smith Barney unit to Morgan Stanley in order to raise much needed capital for the parent. Wachovia Securities became a wholly owned subsidiary of Wells Fargo when Wells purchased the failing Wachovia Bank Holding Company.

Here are answers to some frequently asked questions.

Q. What might cause my current broker/adviser to switch firms?

Advisers can get paid a lot of money to move to a new firm, especially those that have a substantial book of business. With the implosions on Wall Street, many of the big brokerage houses have lowered the payout the broker/adviser collects as a percentage of the client fees generated. If your advisor elects to stay at the current firm, in order to maintain income, the adviser’s only alternatives are to find additional clients or generate more fees within the existing client base.

Q. If my broker/adviser switches firms, what criteria should I use to decide if I want to move to the new firm, stay where I am, or look for a different model?

Find out the answers to the following questions: Did the advisor choose the new firm because of the investment architecture and firm culture, or did the adviser simply pick the biggest pay package?

Does your adviser use mutual funds, in house money managers, or does he/she personally manage the money? If you were happy with the way your money was handled at the prior firm, will it be handled the same way at the new firm? If you weren’t happy at the old firm, find out if things will be different at the new firm.

Many investors think that a big name firm has prescribed solutions for its clients. Not true. Advisers have discretion to use whatever investments they see fit within fairly wide parameters. Within the same firm, one will find a myriad of different investment approaches for clients with the same or similar needs.

Q. Besides the investment and risk criteria, is there anything specific that I should discuss with my adviser?

Find out the total amount you are paying for your investment services. Many investments, especially mutual funds, charge entry fees or exit fees (call loads) and often contain non-explicit fees and commissions. The 12b-1 fee is a kickback from the mutual fund to the brokerage house for putting the client into the fund. Ask your adviser for the exact breakdown of the fees you are currently paying or will pay at the new firm. If you cannot get concrete, definitive answers, and a concrete figure on the direct and indirect fees you are paying, then you should look elsewhere.

What we often find is that there are similar investments available at much lower costs. Most large firms have a preferred vendor list where mutual fund firms pay to get “shelf space”. This is the reason why many no-load funds (like Vanguard) are not available at big firms.

Q. My adviser is now recommending “alternative” asset classes in which I’ve never invested before.

Part of the reason for the Wall Street implosion is the failure of such “alternative” investments, especially in the mortgage area. “Alternatives” have been popular over the last decade, and they were pushed because they generated enormous fees. They are often recommended as non-correlating assets that act differently than stocks and bonds and thus reduce risk. Hedge funds come to mind. These did act differently when times were normal, but when fear gripped the market, a super majority of these amplified portfolio losses, just the opposite of what they were supposed to do.

It is important to know the reason for the “alternative”. Does the adviser deeply understand the strategy? Can he/she articulate how it works and why it should be in your portfolio? If you want to sell, how long does it take to get cash? What does the adviser get paid? Again, concrete answers are crucial.

The investment world has changed. Great returns are now hard to come by. Don’t be complacent about your investments. Ask the questions!

Robert Barone and Matt Marcewicz
Robert Barone and Matt Marcewicz, Ancora West Advisors LLC