Financial advice can be like Longfellow’s little girl with the curl. It can be very, very good — but when it’s bad, it’s horrid.
And in some cases, bad advice leads not just to a loss of money, but also to a loss of faith. The very people you trust with your life savings can steal your money with a smile.
In the town where I practice, a financial advisor moved in, made friends, held swanky events, visited the sick, gave to the poor, established an investment fund and founded a school. Then he was arrested for swindling the “friends” he had advised. At his trial, he apologized by saying: “I did love them dearly. My clients were my life. … I just hope they don’t lose trust in people.” Although my heart goes out to those who lost money to that advisor, I realize how easy it is to be seduced by a charming person.
There are ways to protect yourself from scams and swindles. Here are some of the most effective.
Assume it’s too good to be true
Let “too good to be true” be your default assumption when it comes to promises of a huge, risk-free return on investment. Although a few lucky people may score a windfall, most investors’ return is more or less dictated by the risk level of the investment vehicle they choose. Basically, the safer the investment, the less money you’ll make. U.S. government bonds are almost risk-free, which is why you only make about 1% a year when you invest in them. A corporate bond or biotech stock might give you a 50% return … or the company might go out of business and you earn no return and lose everything you invested.
Forbes reporter Joan Lappin notes that in multibillion-dollar-scammer Bernie Madoff’ssupposed investment fund, the “returns of 15% or so every year were steady as a rock. Absolutely too good to be true. Any professional will tell you that. It’s an old saw: If the returns seem too good to be true, they are too good to be true.” Madoff, of course, was running a Ponzi scheme that inevitably collapsed, wiping out many of his clients.
Don’t be rushed, and don’t believe in ‘secrets’
Almost any — and probably every — investment opportunity that requires you to buy right this minute should be avoided. Few of us live in the high-net-worth, fast-breaking-opportunity world where a rare, lucrative, quick-turnaround, valid investment vehicle might be offered to us. Even those who do live in that world should be wary because few, if any, reasonable financial decisions need to be made immediately. Always take your time to ask questions, think things over and read the fine print about an investment.
Also avoid any investment pitched as a “secret” or an exclusive opportunity just for you. “Every long-term fraud scheme lives and dies by the secrecy of those who participate,” forensic accountant Tracy Coenen says. “Anyone running a legitimately successful business doesn’t have a code of silence. They might not be seeking publicity, but they certainly aren’t going to forbid their clients to talk about how successful they are. When an investor is prohibited from talking about the investment, any reasonable person should know something is amiss.”
Coenen was referring specifically to the Madoff case, but her advice applies to any investment. If you aren’t allowed to tell others about it, can’t find information about it easily on the Internet and see no public advertising, stay away. Your state securities agency can help here, too. Contact officials there if you have questions about a particular offering.
Know when (and when not) to follow your gut
It would be great if you could count on your “gut” to tell you when to buy and when to run. However, gut feelings work best in an environment where you are an expert. I cook a lot, so when my gut feeling says that the water was too cool to make my bread rise properly, I’m probably right. I’m less of an expert on car maintenance, so that funny sound in my Toyota could mean my coat sleeve is hanging out the door or that the transmission is going.
What types of advisors have the greatest potential for conflicts of interest and bad advice? Paladin Investor Resources suggests that consumers avoid advisors who:
Run your own background checks
Take the time to check up on your advisor, your advisory firm and the investment vehicles they sell. Consumer Reports has great tools for investigating financial professionals and recommends that readers check in with the agencies that regulate them. Options at your disposal include:
- FINRA’s BrokerCheck, a database that contains information on about 1.3 million current and former brokers and 17,000 current and former brokerage firms.
- SEC’s Investment Advisor Public Disclosure website, the place to see whether an investment advisor—an individual or a firm that gives advice about securities — has been disciplined.
- NASAA, the website of the North American Securities Administrators Association, where you can connect with your state securities regulator and verify that an advisor is licensed to sell the investments he or she wants you to buy. You can also find out whether an advisor has any complaints or disciplinary actions on record.
Read your paperwork
It can be tedious, but make a point to review your financial statements regularly. Financial journalist Jack Waymire says consumers should “receive monthly, quarterly, year-to-date and annual reports that document your performance. The report should provide performance data that is gross and net of all fees so you can see the impact of expenses on your results.”
Stick to the fiduciary standard
A financial professional who operates according to the fiduciary standard is legally obligated to put the client’s interests above his or her own. Advisors who are fiduciaries can face civil and criminal penalties if they sell you investment products that benefit them more than you, unlike broker/dealers who can legally profit from investments that are not right for you. As Jane Setzfund of AARP writes, if your advisory is not a fiduciary, ask about the fees associated with the investment being recommended, how those fees compare with other investments and whether he or she will earn a commission if you choose the investment.
Beware of ‘educational’ websites and events
When you do your research, look for unbiased websites, articles and books. If a government agency is providing the information, you can assume it’s not trying to sell you something. Non-profits usually have nothing to gain from connecting with you, so you can feel safe there as well.
How about a free dinner in exchange for listening to an “educational” seminar? I come from Mennonite people, and I hate to pass up anything free. Complimentary coffee? Yes, no matter how weak. How about a free dinner at one of the fanciest restaurants in town just for listening to a presentation on retirement planning? For that, I have to say no.
Why? If any finance- or money-related entity offers free breakfast, lunch, or dinner in return for an “educational seminar,” skip it, even if, as Jane Byrant Quinn writes, “you think you’re strong enough to go only for the food.” These sales events try to stick you with expensive products and will often not provide accurate information. The people who offer these meals are trained salespeople, and they know the psychological techniques to get you to buy. They are not necessarily evil or crooked; most have a valid product to sell. But if they are giving you a free meal, the product is likely to be overpriced. Even financial advice given out at a church can sometimes be suspect. If you attend church-related educational seminars, make sure you understand the true costs of the service or product being sold.
The bottom line
It’s a scary world, and even experts make mistakes and end up being swindled. The investors with Bernie Madoff, the workers at Enron and many other people who thought they knew better have lost money on investments they believed were completely safe.
Being aware is your best defense. Stay safe.