Dirty Tricks Brokers Use to Get Your Business

There really is no great secret on successful investing for long

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term goals. You do not have to know everything about investing to succeed, but you do need to know the right things. There is an academic method to developing a diversified portfolio, custom fit to each individuals situation. This goes against the Wall Street model that strives to keep investors in fear that they need Wall Street to guide them in ever changing directions.

Misleading tiltThere is significant research supporting the value of tilting the stock portion of a portfolio towards small and value stocks. Tilting towards these riskier asset classes can increase expected returns, albeit with increased risk. However, there are periods of time when large and growth stocks outperform small and value. For example, in 2011, large cap stocks outperformed small cap stocks.

By tilting the stock portion of a portfolio towards the asset class that outperformed in the past year or two, advisers can make it appear they have the ability to increase returns in the future. Don’t be fooled. If your adviser is recommending a tilt towards any asset class, ask to see long term data supporting this recommendation.

Using long term and lower quality bonds

By using long term (maturity dates more than 5 years) bonds, and bonds with ratings below investment grade, brokers and advisers can make it appear they are generating higher returns. Many investors don’t understand these returns come with higher risk. Historically, according to research done by Dimensional Fund Advisors, long term bonds are more volatile than shorter term bonds, but have not provided consistently greater returns. The same research indicated that bonds lower in credit quality have earned higher returns, but there is a greater risk of default.

You would be better advised to limit your bond holdings to maturities of five years or less and to insist that all of these holdings be rated investment grade or higher. You can increase your expected return (and your risk) by allocating a greater portion of your portfolio to stocks, assuming that would be suitable for you.

Using short term returns

Short term data can be extremely misleading. Some brokers and advisers cherry pick funds for inclusion in a recommended portfolio that have impressive three year returns. The implied message is that these funds are likely to outperform in the future. You can find a discussion of the benefit of longer term data here.

You should insist on seeing at least a 10-year history of returns and preferably longer.

There’s an old Chinese Proverb that says: “If you must play, decide upon three things at the start: the rules of the game, the stakes, and the quitting time.”

You now know some of the rules of the game.

This is how most brokers compete and it does not involve the truth.

Please comment or call to discuss.

  • Their Confidence Is Killing Your Returns II (401kplanadvisors.com)
  • Diverisification Is Your Buddy (401kplanadvisors.com)
  • Asset Allocation Basics (sethigherstandards.com)
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Diversification Is Your Buddy

Given the events of the past few weeks, many investors are considering moving their money out of the stock market.


Since no one can predict the future, this is a huge mistake.


You must decide if you are a gambler/speculator or an investor. Gamblers believe they can out guess the market and avoid all losses. The gamblers have proven numerous times to be wrong in the long run. One may get ‘lucky’ but no one can consistently market time.


In markets like these diversification is your buddy.


Proper diversification spreads risk across various asset classes with varying return characteristics or dissimilar price movement. Simply said: they don’t do the same thing at the same time. Most investors are narrowly diversified into top performing funds or classes of the last five to ten years. They often feel diversified but aren’t. To be diversified means including classes or types of funds in your portfolio that did poorly over the last five to ten years. If you do this, your portfolio will look and perform very differently from your neighbors’ or friends’. Those of you which are my clients own portfolios which are professionally diversified and rebalanced much like the large pension funds.


Over time these portfolios will help you successfully accomplish your investment goals.


To succeed in investing you must own equities….globally diversify…..rebalance.

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Emotional Investment Decisions.

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Every day we hear on the radio or see on the television or print media reasons to make emotional decisions with our money. Every day there are reasons for any asset class to go up OR down. Every day there is new information that will affect us in a positive or negative way. The variables that can affect investments are never the same as there are hundreds if not thousands of such variables.

You can justify almost any imprudent investment decision with “facts.”  Information is filtered by our emotions to create “facts” that support our decisions or beliefs.  Without outside guidance, it is impossible to tell when and how this happens.  Truth in the field of investing is elusive. It may not be lies but rather that no one knows what will happen next. You may find someone who makes a correct “prediction” however there is no evidence that this same person or institution will be right going forward.

To truly succeed in investing for the long term, you must own equities…..globally diversify…..rebalance.

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2011 Winners Can Make You a 2012 Loser

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No one can predict the future. Yet the financial institutions has convinced the public that they can beat the market. The best solution for investors is to own equities, globally diversify and rebalance. Any other strategy makes more money for Wall Street and less for Main Street.

Arends looked at the “most hated” stockswith the most analyst “sell” recommendations. The top 10 of these stocks underperformed the most “loved” stocks by less than 1%.The overwhelming evidence that no one can predict which asset classes (much less which stocks or mutual funds) will perform well in the future has not deterred the same “experts” from making predictions for 2012. I want to get in on the action so here are my predictions:

1. A majority of investors will continue to believe brokers have the ability to pick outperforming stocks and actively managed mutual funds and to provide guidance on “what is happening” in the market;

2. A minority of investors will cancel their retail brokerage accounts and invest in a globally diversified portfolio of low management fee index funds in an asset allocation appropriate for them.

3. Over time, the returns of the minority of investors described in #2 are likely to outperform those of the majority of investors described in #1.

4. The primary beneficiary of perpetuating the myth that retail brokers and financial pundits can predict the future will be those dispensing this advice. The victims will be those relying on it

Process beats predictions over time. No one can consistently predict the future.

Please comment or call to discuss.

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Don’t Forget Your ERISA Bond

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Keep in mind this bond does not protect the plan sponsor from fiduciary liability. It offers protection in the event of fraud.

Who must be covered by the bond?
As a general rule, every plan fiduciary and every person who “handles funds or other property” of an ERISA-covered employee benefit plan (see below) must be bonded. It should be noted that administrative committee or investment committee members are often considered to be plan fiduciaries. A person is considered to “handle” plan funds if the person has physical contact with cash, checks, or other similar property, is able to secure physical possession of plan funds, or has the potential ability to direct (acting alone or with others) the transfer of plan funds to himself or herself or to third parties.What employee benefit plans are covered?
The bonding requirement applies to most employee benefit plans under ERISA, including:

tax-qualified retirement plans;

group medical, dental, and prescription drug plans; and

flexible spending arrangements (FSAs).

You should think about the ERISA bonding requirements any time that you or one of your employees or agents is handling employee money or plan assets.

TaxQualified Retirement Plans
Tax-qualified retirement plans will always require bonding because they involve plan assets that are set aside in a trust. Thus, any analysis will need to focus on whether the fiduciary in question “handles” the plan assets, not on whether plan assets exist.

The fidelity bond is extremely important and required by the regulations. It does not provide fiduciary protection to the plan sponsor.

Please comment or call to discuss.

  • Brokerages may have to change business practices: DOL (401kplanadvisors.com)
  • Who Are Your Fiduciaries? (401kplanadvisors.com)
  • Fiduciary Responsibility for Plan Investments. (401kplanadvisors.com)
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Discretionary Trustees vs. Directed Trustees

Trustees Catherine Ripley and Ken Gibson
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Plan sponsors need to understand that their service provider does not, ordinarily, assume any fiducisry liability. Many service providers use a marketing gimmick to sell plans by making empty promises. If you read the fine print a ‘fiduciary warranty’ offers virtually no protection.

Perceptions and Reality
A directed trustee is the most common kind of trustee associated with plan assets. The functions assigned to the trustee in most standardized plan documents and trust agreements such as prototype plans are those of a directed trustee. In many cases, a directed trustee is a trust company that provides an asset custody service as part of a mutual fund family that offers bundled record-keeping services such as the case with Fidelity Management Trust Company and the Fidelity investment arm in DeFelice, and Merrill Lynch Trust Company and the Merrill Lynch investment arm in WorldCom.The perception that trust companies and other such entities ordinarily provide legal protection to plan sponsors for the selection, monitoring, and replacement of plan assets is wrong. While the custodial and trustee services offered by trust companies and other such entities are valuable, even a directed trustee under ERISA, such as a trust company, cannot offer plan sponsors legal cover simply because their agreements with these sponsors make sure that the sponsors–not the directed trustee–remain ultimately liable for plan assets, in accordance with the law of ERISA.

As I’ve noted in previous columns, mother always said to read the fine print. So once again, I’ll remind advisors to remind their fiduciary clients to read their agreements with trust companies and other such entities because it is usually these documents that will govern the ultimate legal liability of their clients, not oral sales representations or written sales brochures.

Plan sponsors need to understand the difference between marketing gimmicks and actual transfer of risk.

Please comment or call to discuss how this affects you and your company retirement plan.

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Einstein’s Theory… of Investing

When investors look at an asset manager performance record they looking for  a repeat performance. This is seldom the case. There is zero correlation of past performance to future results. The investor best solution is to own equities, globally diversify and rebalance. This includes hiring an advisor who will keep them on track.

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Here’s real wisdom from Einstein. He defined insanity as doing the same thing over and over again and expecting different results. Welcome to the world of investing where brokers and financial pundits start each year hoping you are as uninformed as you were last year. They depend on your lack of familiarity with the overwhelming data indicating they are emperors with no clothes, whose real expertise is separating you from your money by pretending to have the ability to predict the unpredictable and to bring order to random events.Around this time last year, the respected journal Pension & Investments published an article titled: For 2011, it’ll be all about equities. A survey of 2,007 responding institutional investors picked “winning” asset classes for 2011. Stocks garnered the most votes with 40%. Commodities were next and bonds came in last.

James W. Paulsen, chief investment strategist at Wells Capital, predicted the S&P 500 index would reach 1425 and achieve “possibly” a 15% total return.

The reality was quite different. The S&P 500 closed the year at 1,257 — almost exactly where it was a year ago. The winning asset class was fixed income. A broad index of Treasury bonds was up 9.6%.

Let’s give this some perspective: The biggest, best, brightest, most sophisticated and highly compensated institutional fund managers can’t predict whether stocks will outperform bonds in a given year.

How do you like the chances of your broker picking stocks, timing the markets or picking outperforming mutual funds?

My New Years wish for all of you is this: Fundamentally change the way you invest. Cancel your retail brokerage accounts. Eliminate all individual stocks, bonds and actively managed mutual funds from your portfolio. Don’t listen to anyone who tells you they can add “alpha” by “beating the market” or predicting whether it will rise or fall. Ignore the financial media with their breathless predictions about the impact of yesterday’s news on tomorrow’s prices. Don’t succumb to the sense of urgency which causes fear and panic. Stop the transfer of wealth from your pockets into those who “advise” you.

Follow Einstein’s advice and don’t repeat your mistakes. Do that and I like your chances of having a happy and prosperous New Year.

Great advice for any occasion.

Please comment or call to discuss.

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Plan reviews – replacing funds is only part of the solution

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There is more to fiduciary responsibility than changing plan investments. Most plan sponsors should consider outsourcing most of these duties to independent professionals. This will reduce their fiduciary risk and improve the quality of the plan they offer their employees.

Monitoring and making investment line-up revisions is only a part of the equation. A plan can offer 5-star funds with low expense ratios across all major asset classes, but if participants make poor choices, the plan falls short.They say the definition of insanity is doing the same things over and over and expecting different results.  How would you describe continually monitoring the funds available in a plan without analyzing how effectively they’re being used?

Plan fiduciaries are required to make decisions in the sole best interest of their participants, so sponsors should make tools and services available to help participants make appropriate savings and investment decisions – and monitor the results.

As you gear up for your annual meetings this year, I challenge you to look beyond the investments to how your participants are doing.

Study after study shows that, as a whole, participants are poor investors. If this is an issue with your plan, take action. Whether through changes in plan design, such as defaulting participants into a QDIA, or by offering products and services geared toward improving participant behaviors, take action.

And regardless of the solution you choose, measure results. Putting a solution in place and walking away is not the answer.

If we, as an industry, begin to monitor participant behavior and results with the same level of detail and scrutiny that we monitor investments, participants are going to be much more prepared for retirement.

Having the best funds in your plan is only part of the solution. Would you give a novice all the best tools and not tell them how to properly use them? A retirement portfolio or plan should be treated the same.

Please comment or call to discuss how to improve your company retirement plan.

  • Fiduciary Responsibility for Plan Investments. (401kplanadvisors.com)
  • Fee disclosure facts every plan sponsor should know (401kplanadvisors.com)
  • Employees Want a More Pension Fund Like Plan. (401kplanadvisors.com)
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Net 401k Participant Transfers Almost Neutral in September

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Simply put market timing does not work. In the end we must believe that free markets work and in the long run a globally diversified portfolio will succeed in the long term. We are investing for the long term not looking for the next hot asset class.

On average, 0.03% of balances transferred on any given day. This is in line with the trailing 12-month average daily net transfer activity levels.The direction of transfers was almost neutral for the month. Although 401(k) participants moved their account balances out of fixed income funds and into equities on a majority of days (57%), the net dollars transferred went the opposite direction. A total of $60 million was transferred out of equities and into fixed income investments, representing 0.05% of total assets.

For the quarter, transfers were strongly fixed income oriented. A total of $1.4 billion moved out of equities and into fixed income investments, which represented 1.1% of total assets. The vast majority of these transfers took place in July ($946 million) and August ($432 million), according to Aon Hewitt data. 

Nearly all equity asset classes saw some outflows. Small U.S. equity funds saw the largest outflows in September, totaling $41 million. For the quarter, they lost $321. Premixed portfolios had $34 million of outflows for the month and $268 million for the quarter. 

401(k) participants also moved away from large U.S. equity funds and international funds. Large U.S. equity funds lost $25 million in September and $472 million for the quarter. International funds had $14 million transferring out for the month, and $243 million during the third quarter.

Fixed income asset classes received most of the net transfers. Bond funds received the largest amount of inflows in September, with $106 million moving to this asset class. For the quarter, $383 million flowed into bond funds. Stable value funds and money market funds also received $1 billion and $145 million for the quarter, respectively.  

Participants’ overall equity allocation was down 1.8% from 58.7% to 56.9%. Aon Hewitt said this was mainly due to the significant loss in the stock market.

Participant discretionary contributions to equities (employee only contributions) also declined slightly from 62.1% to 61.9% in September.

This more evidence that plan participants are actively trading their account balances based on emotions and not part of a strategy. The retirement plan is intended to be invested for the long term. Remember market timing does not work.

Please comment or call to discuss how this affects your employees and yourself.

  • Tips 401k Plan Sponsors Can Use to Help Employees Avoid Risk Aversion (401kplanadvisors.com)
  • Regulations and Costs Shaping Future of 401k Plans According to FRC Study (401kplanadvisors.com)
  • Six Things Your 401(k) Provider Doesn’t Want You to Know (401kplanadvisors.com)
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Best Practices for Reducing Loans, Hardship Withdrawals, and Impulsive Investment Decisions

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These practices will not only help employees successfully retire, you will also reduce the workload of your staff. Employees must be reminded that the money in their 401k plan is protected from creditors in the event of bankruptcy.

Employees who take 401k plan loans contribute less for retirement. According to the Aon Hewitt study Leakage of Participants’ DC Assets: How Loans, Withdrawals, and Cashouts Are Eroding Retirement Income, employees with loans have an average contribution rate of 6.2% while employees without loans contribute on average 8.1% to their defined contributionplans. This difference in contribution rates could mean tens of thousands of dollars to participants in retirement. The study also noted that withdrawals (including those due to hardship ) have a great impact on retirement income as well, noting that full-career contributors who take withdrawals and stop contributing for two years thereafter reduce their retirement income by 7% to 25% depending on income and enrollment methodology.Investment timing can negatively affect investment performance, but many employees don’t know what else to do when they don’t understand basic investment strategies. A recent study by Fidelity Investments® showed employees that moved all of their funds out of equities during the recession of 2008 – 2009 experienced an average increase in account balance of only 2% through June 30, 2011 while those who maintained their investment strategy realized an average account balance increase of 50% during the same period. Reducing impulsive investment decision making and encouraging strategic decision making will improve retirement preparedness along with employees’ investment confidence.

This is a problem that could come back to haunt employers. There is a growing concern that lawsuits from employees who claim they weren’t given enough information on how loans, hardship withdrawals, and poor investment choices could severely impact their retirement may increase. The claim may be that employees shouldn’t have been allowed to take loans or hardship withdrawals, or that they should have been given more information on asset allocation.

The 401(k) plan has become the sole source of retirement for many Americans. Yet many see their 401(k) account balance as a source of emergency funds. This will negatively impact their ability to retire when they choose.

Please comment or call to discuss how plan design can improve your plan.

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