Simple ways to avoid fraud…

As an Investment Advisor there is a fiduciary responsibility to be honest and forthright in all matters. It’s increasingly frustrating to see so many examples of Advisors who neglect these responsibilities to their clients, in order to enrich themselves. Here we have yet another story:

InvestmentNews Article

According to the article, this advisor lied about the amount of assets under management and the returns those assets were achieving. With the proliferation of financial data these days, portfolio models are a dime a dozen. Anyone can backtest to find the correct portfolio that WOULD have done well during the previous full market cycles. This doesn’t mean it will work in the future, as no one knows what the future will bring with any consistency.

I guess if we are reaching for bright spots, the only one here is that it doesn’t appear to be an outright ponzi scheme and so investors are still able to access their money. Investing is a difficult endeavor by itself. Investors do not need the additional stress of wondering if their advisor is legit or the investments being pitched to them are legit. To combat this, here are three simple steps to help avoid most of the fraud that is occurring these days.

  1. Check the FINRA’s Broker Check web site.

The Financial Industry Regulatory Authority has developed a database that contains important information for you the investor. Anyone who is attempting to do business with you must be registered. So look up the name of the contact person and the firm he or she is representing first. If you can’t find them listed, it’s usually best to walk away. There are some instances where someone can sell certain securities without being registered, but these are few and far between. If you were to look through the disciplinary files at the SEC and State Securities Administration website, you would see that the majority of these fraud cases were because some unlicensed sales person sold some unregistered security that turned out never existed in the first place. Unfortunately a simple check on FINRA’s website could have negated many of these fraud cases.

Along with being registered, the database will alert you to any prior disciplinary actions as well as their background information. This will be helpful to you the investor to see if there are any further red flags to be aware of. At the very least you can use this information to ask further questions of your advisor or broker. Don’t be afraid to ask questions. Remember this is your hard earned money that is at stake.

2. Low risk and High reward just doesn’t exist. If it sounds too good to be true, it probably is.

Unfortunately there isn’t a holy grail in investing. If someone comes to you and claims to have a little to no risk investment that offers a high yield or rate of return, be very suspicious. First of all, if they had this “sure” thing, why would they tell you about it? Why wouldn’t they be borrowing as much money as they could and investing in it themselves? The answer is because it’s not real.

There are no certainties in the financial markets. And the trade off between risk and reward is always prevalent in real investments. In other words you can take little risk and keep money in a savings account or money market account. But the trade off would be to accept low rewards in the form of an almost 0% interest rate. On the other end of the spectrum, you could take an above average amount of risk by investing in a 100% stock portfolio, emerging markets, high yield junk bonds, etc. These investments would give the investor a chance to make above average returns. But the trade off would be a tremendous amount of volatility and risk of losing money.

There is simply no getting around this concept in and by itself. But an Advisor can create an investment plan to diversify your investments across a variety of different asset classes. This will help to ensure that your portfolio aligns with your personal goals, time horizon and risk tolerance.

It’s not always easy because it usually ensures that you will dislike part of your portfolio. But financial markets are cyclical, and what works now doesn’t always work in the future, and vice versa. So creating a diversified portfolio is really the best way of navigating the risk in the markets.

3. Keep it simple. If you can’t understand the investment, don’t be afraid to walk away.

There is a growing trend to promote complicated investment products that few can fully understand. The main reason is that fees are generated on these products, so the more sophisticated the product or strategy, the higher the fees generally are. This is not a one size fits all answer. There may be a place to these types of investments in certain portfolios. However you should not feel that your financial goals hinge on these products.

Ask your advisor or salesperson to explain the investment or strategy in simple terms. What does the investment do and how does it align with your personal goals and objectives? If after the explanation you still don’t comprehend it or feel uneasy about it, don’t be afraid to just walk away or decline the offer. The worst that can happen is that you miss out on an opportunity that might have made some more money. However if you maintain an Investment plan, this one decision alone should not deter you from meeting your goals. And the best case scenario is you avoid an outright fraud or an investment that crashes.

Following these three steps will go a long way to saving you from making a bad investment decision.


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