Invest in Portland

For thousands of years investment advisors have been asking investors to give them money so they could invest it for them. Even after Charles Ponzi in the 1920′s, investors have continued to give investment advisors money to invest. The mutual fund industry has been the largest vehicle, but is highly regulated and has produced few frauds. Unregulated investment schemes, such as PONZI schemes and its brother, pyramid schemes, have been the most prolific types of investment fund frauds. Hedge funds could be the next significant vehicle. Hedge funds have gained in popularity to a staggering investment amount of over $2 trillion, according to the SEC. Over 2,400 investment advisors have registered 11,500 hedge funds with the SEC this year.

So why would hedge funds produce the next really big fraud? According to the Association of Certified Fraud Examiners and Financial Accounting Standards Board, the environment for fraud includes three factors, “incentives/pressures, opportunities, and attitude/rationalization.” The hedge fund manager certainly has the pressure from his investors to produce results. He also has an unregulated environment to work in producing the opportunity. Additionally the high risk/high reward attitude of the manager makes him more likely to take the risk of defrauding his investors.

A quick review of the SEC litigation releases in the past year shows increased activity against hedge funds, including: altering audited financial statements, concealing losses, creating a fictitious auditor, insider trading, market timing (mutual funds), misappropriation, misrepresentation to investors, non-disclosure to the SEC, and stock manipulation. These frauds were not limited to small or offshore funds, but included funds with hundreds of millions of dollars operating throughout the US. Are these all of the frauds occurring? No, but these are simply the ones which the SEC has litigated against. No one knows in this unregulated environment how many frauds are occurring today.

Since hedge funds are still a popular investment vehicle, how can an investor protect against these frauds? Like any investment, the investor must do due diligence before investing in a fund. The investor should review the funds offering materials, investment objectives, audited financial statements, background of investment advisors and other documentation provided by the fund. He should verify the size of the portfolio with the fund’s custodian. He should check the background of the personnel of the investment advisor working on the fund. He should check for regulatory action against the investment advisor and its personnel. He should evaluate the ability of the outside auditor. He should determine who prepares the periodic financial statements provided investors and whether there is third-party oversight. He should determine if the fund has registered with the SEC. He should check with others in the industry that have knowledge about the fund.

After the investment is made the investor’s due diligence should not stop. Many of the documented hedge fund frauds have not started in the beginning of the fund, but after the investors became comfortable. The investment advisors continue to be pressured to produce results or lose their investors. The investor should continue to review the reports sent to him by the fund. He should verify the size of the portfolio with the custodian on a periodic basis. He should watch for changes in auditors and other third parties. He should be alert for any regulator action against the fund or its advisors. He should not let the early withdrawal penalties deter him from withdrawing at the first sign of trouble. In most of the documented cases, there is little left, after discovery of the fraud and the litigation to recover from the fraudsters and third parties.

The answer is that some hedge funds are defrauding their investors while they are not more closely regulated. With the increasing popularity and size of some of these unregulated funds, one of these may be the next really big fraud. Don’t be the investor caught in it!

Is your investment professional a broker or a fiduciary?

The answer may surprise you.

As a successful anesthesiologist, you often juggle multiple priorities. Consulting with patients and spending several hours a day in the operating room can make it difficult to focus on your finances. If you’re like many busy medical professionals, you may currently be working with an investment advisor or considering hiring one in the future.Working with an experienced advisor has many benefits, including increased peace of mind about your finances so you can focus your full attention on what matters most-the health, safety and well-being of your patients. However, not all financial advisors are fiduciaries, so it’s important to conduct some basic due diligence before hiring an investment professional.

Brokers vs. Fiduciaries

An advisor who understands your personal goals and has your best interests in mind can help enhance your wealth, manage risk in your portfolio and create a comprehensive wealth management plan for you and your family. There are several different types of advisors working in the marketplace today, so finding the right one for your needs requires knowing what questions to ask before hiring somebody. The most common types of investment professionals working with individual investors today are stock brokers and independent Registered Investment Advisors (RIAs). The primary distinction is that a stock broker’s fiduciary obligation is to his or her employer, while an RIA’s fiduciary obligation is to you as a client. A recent survey commissioned by TD Ameritrade1 found that many investors don’t know the difference between a stock broker and an RIA. The survey reported that:

• 54% of investors believed both stockbrokers and RIAs have a responsibility to act in their best interest.
• 74% of investors were not aware that only RIAs have a fiduciary responsibility to the investors they serve.
• 79% said they would rather work with an RIA once they found out that an RIA provided greater investor protection than stockbrokers.

Four Key Questions To help you interview potential advisors or evaluate the merits of an existing advisory relationship, I recommend asking the following four questions when talking with advisors. A reputable advisor will feel comfortable answering any of these questions and should welcome your interest in becoming a more informed investor.

1. Who is your employer? Any financial advisor working for a broker-dealer is technically a stock broker. Some of the nation’s largest broker dealers include Merrill Lynch, UBS, Citigroup, Solomon Smith Barney, Morgan Stanley and Wachovia.While there are a number of reputable investment professionals working for these firms, keep in mind that all stock brokers have a primary responsibility to their employers, not their clients. They are required by law to act in the best interest of their firm at all times. In contrast, any advisor working as an RIA has a clear and direct fiduciary obligation to his or her clients. An RIA must act in your best interest at all times or risk losing his or her registration with the U.S. Securities and Exchange Commission (SEC.). If you’re a “do-it-yourself” type of investor-conducting your own research and monitoring your own accounts-working with a full-service or discount stock broker may make sense for your situation. If you’re looking for comprehensive investment guidance and advice, working with an RIA may be a better choice. An RIA is qualified to help you create an investment policy statement, make investment decisions for both your personal and business accounts and monitor your portfolio on an ongoing basis. In addition, an RIA is required to act in a fiduciary capacity at all times.

2. How are you paid? Stock brokers may be paid on a commission basis, a fee basis or both. Critics of the brokerage industry believe that selling commission-based products can sometimes lead to conflicts of interest between stock brokers and their clients. In contrast, RIAs typically work on a fee-only basis, which means they accept no commissions, ensuring greater transparency in their compensation structure to their clients.Working with an RIA can make it easier to understand exactly what you’re being charged by an advisor, measured in a specific dollar amount.

3. What type of clients do you usually work with? The type of clients an advisor is currently working with will give you a good feeling for his or her skill set. Be sure to ask about an advisor’s average client account size, their typical client profile in terms of family, geography, wealth planning needs, and whether their clients tend to have earned or inherited wealth. In addition, consider asking any prospective advisor for the names of three current clients who would be willing to speak with you about their experiences in working with that advisor.

4. What other services do you offer beyond investment management? A stock broker may provide investment services only, or access to broader range of financial planning services through a subsidiary of his or her employer. Keep in mind that stock brokers are not required to act as a fiduciary for any services they provide. An RIA will typically provide a comprehensive suite of financial planning services, including investments, insurance, estate planning, credit and lending services and retirement advice. An RIA is required to act as a fiduciary for all services they provide.

Getting Started- Remember the key to establishing a successful advisory relationship with an investment professional is to be an informed investor at all times by asking a lot of questions. Be sure you have a clear understanding of who your advisor works for, how your advisor is paid and whether or not an advisor has a fiduciary obligation to you, as a client. If you’re looking to hire a qualified investment professional, you may want to consider interviewing two or three different candidates before making a decision. Friends, family members or colleagues may be able to provide you with an introduction to an investment professional they know and trust. You may also want to ask your other trusted advisors, such as your attorney or accountant, for a referral. In addition, be sure to conduct your own thorough due diligence to make sure you are completely comfortable with an advisor before beginning any new advisory relationship.

Changes to the way property investments are taxed are on the way. These changes may have a positive spin-off for people looking to buy their first home.

Property is currently a very tax-effective investment compared to shares and deposits. Investors in shares pay tax on their dividends and those with deposits and bonds pay tax on the interest they receive. Property owners though can reduce their tax with depreciation credits, to the point where the government actually ends up paying a refund of $500 million to the owners of the $200 billion invested in property.

Perhaps this generous tax treatment is a contributing factor to our love affair with housing as an investment. We recently compared the assets held by New Zealand households to those in a sample of other developed countries. This analysis showed that we have far and away the highest weighting to property with 75% of our household assets invested in housing.

At the other end of the scale, the figures we gathered show that New Zealanders have the smallest allocation to shares of all the countries in our sample. We invest just 2% of our savings in direct equities, far less than countries like Australia where households have 8% of their money invested in shares, and the United States where shares represent 21% of household assets.

It is this heavy reliance on property and lack of diversification into other assets like shares that the government is probably trying to change with its new tax rules.

There is no question that the changes will push down property values. The share prices of the listed property trusts – property funds that own portfolios of commercial property that are listed on the stock market – fell by around 5% when the changes were first mooted by the Tax Working Group.

All this is good news for people looking to buy their first home. House prices may soften from current levels in the wake of any tax changes, thus making them more affordable.

Over recent years houses had become very expensive relative to incomes. Historically, average house prices have usually traded at around three times the average household income. By 2007 this ratio had hit six times, making houses unaffordable for many people.

The tax changes may not be the only thing weighing on house prices this year. The fact that houses look expensive compared to incomes may also mean prices might drift lower from where they are today. All of this means that 2010 may be a good time for first home buyers to start considering looking for a house.

While there is a lot of talk about how over-invested New Zealanders are in property – and I have added to it here – owning your own home is a sensible investment decision, in our view.The main point of the whole discussion about property and investing is not that property is a bad investment, but that New Zealanders are over-exposed to it, and their savings are not diversified enough into other investments.

Not only does owning a home give you somewhere to live, it gets your cash invested in a ‘real’ asset. Property and shares are what we call ‘real’ assets because, unlike fixed income investments like term deposits, they offer the potential for capital growth over time. It is this growth that provides protection against inflation over the long term.

Perhaps we would do well to emulate what people in countries like Denmark, Switzerland, Canada and many others do with their investments. By the time they retire, families in these countries typically own their home freehold, thus removing the burden of rent from the weekly budget. They also have a diversified portfolio of shares, fixed income and perhaps some property, all of which generates an income they use to supplement their superannuation.

Buying a home is a good first step towards achieving this outcome.