I come across investment bloopers all the time in my line of work – I’m a
Fee-Only (no products sold) Certified Financial Planner®. From what I can see, many bloopers are a “perfect storm” – a combination of opportunistic product
sales combined with a lack of understanding by clients. How does this happen?
The standard of care by brokers and some advisors who sell products is a
“suitability” standard – not the better fiduciary standard that requires an
advisor to put a client(s)’ needs first. According to the “suitability”
standard, products are fine if they’re “suitable” for the client – but
“suitable” is a slippery slope that leads to investment bloopers.
Note: These investment bloopers are true; identifying information and
situations have been completely changed.
Blooper #4: Dan and Miranda don’t know how much their broker charges
them each year – and why he’s keen to recommend certain
Dan and Miranda have $2,000,000 of investment accounts with an advisor. They
don’t know anything about A, B and C mutual funds – they don’t pay attention to
the “A,” “B” or “C” alongside the name of each mutual fund holdings. Their
broker invested $500,000 in “A” shares – these generated up to $28,750 (5.75%)
in front-end commissions to the broker (note: fees were deducted from Dan and
Miranda’s initial pool of funds – they weren’t aware the initial $500,000 seed
money began at $473,750 because of the 5.75% front-end loads). Their broker
invested another $500,000 in “B” shares – they didn’t know B shares have a
surrender penalty so they’re stuck another 3 years and can’t move out of these
investments without penalty. Finally, their broker put the $1,000,000 balance in
”C” shares – these pay $10,000 each year to their broker (1% fee on $1,000,000
- again, fees are deducted from their net return so they don’t see or feel
Conclusion: Pay attention to “A,” “B” and “C” designations mutual funds. Make
sure you understand what they cost you – brokers say they explain fees to
clients but this couple has no memory of having these explained to them.
Unfortunately, confusion about fees is very typical.
Blooper #3: Jerry has variable annuities he wasn’t aware he
Jerry has IRA accounts with a friendly advisor who sells products. Jerry told
the advisor he was worried about outliving his retirement assets. The advisor
agreed to “help provide a comfortable retirement” and explained these
investments are “safe.” Jerry didn’t really understand what he was signing but
he trusted his advisor.
When Jerry engaged an independent advisor to review his investments, he was horrified to discover he had purchased variable
annuities with surrender penalties! The advisor who sold these to Jerry did NOT
tell Jerry she earned a tidy $8,000 in commissions by putting him into $200,000
of variable annuities (4% commission on $200,000 = $8,000) and did NOT tell
Jerry these annuities would cost him 3% per year in fees that are deducted from
his investment return (= $6,000 per year on $200,000 – deducted from his
Conclusion: Jerry was advised by his new independent advisor Jerry to exit
these variable annuities when the surrender penalty ends in 2014. Once he
unwinds these annuities in 2014, his funds remain in his IRA but now Jerry has
access to low-cost investment alternatives.
Blooper #2: Susan ended up in a hedge fund she doesn’t
Susan’s brother, a Fee-Only Certified Financial Planner® took a look at her
brokerage statement and discovered Susan had 25% of her investment portfolio in
an obscure hedge fund that has declined by more than 1/3 vs. her initial
purchase price. Susan will retire in 5 years – the broker obviously didn’t pay
attention to Susan’s comments that she can’t stomach much investment risk.
Conclusion: Susan confirmed this investment is free of surrender penalties;
she has decided to cut her losses due to the high risk. Since this position is
in a taxable account, Susan can “harvest” the investment loss (use it to offset
capital gains elsewhere — or carry over $3,000/year for the rest of her life).
If Susan retained this fund in her IRA, she would consider the pros and cons of
selling in consultation with an independent investment advisor.
Blooper #1: Janice and Bill don’t know what their ideal portfolio
should be (e.g. 40% stocks, 60% bonds/cash) and they don’t know how their
current portfolio is positioned:
Broker XYZ provided Janice and Bill with a patchwork of various investments.
They don’t understand what they’re invested in, and don’t know if their
portfolio is too risky for them. Janice checks the value on statements each
month and is pleased if the portfolio is “up” for the month. She trusts Broker
XYZ to handle things.
Conclusion: Janice and Bill had a Fee-Only financial advisor review their
existing holdings, determine their risk tolerance, determine the kind of
portfolio that best funds their financial goals, weeds out inappropriate
investments and gets them on the right portfolio track. The advisor periodically
rebalances their investments so they stay on track.
Are you experiencing any of these investment bloopers? Get a 2nd opinion from
a knowledgeable financial advisor who doesn’t mix products with advice – a
Copyright (C) 2012 by Eve Kaplan