Who Can I Trust in the Financial Services Industry?

For well over a decade, my unrelenting focus has been understanding financial risk and developing practical strategies for managing the risk created by job loss, illness or disability, bear markets and funding thirty years of retirement. Since 1997, I have watched the job of managing those risks become increasingly complex.

One reason understanding and managing financial risk is more difficult is the world, in general, changes at such an incredible pace. Fellow speaker, Vince Poscente, calls it the more-faster-now culture. The other more sinister reason the job is more difficult is it seems so difficult to know who to trust. Over the last ten years or so, in the financial services industry in particular, so many have proven themselves so untrustworthy.

I am not just talking about the Enrons and Bernie Madoffs of the world. I am talking about the countless number of brokerage firms, insurance companies, mutual fund complexes, brokers and investment managers who continue to sell you products – like mutual funds or annuities – and lies – like market timing or stock picking – when all the evidence clearly says those products are only good for the people selling them. So let me give you some guidelines to help you sort out the snakes from the good guys.


The first criteria is transparency. Transparency means everything is up front and out in the open. It is the financial services equivalent of an open kitchen in a restaurant. Ask yourself these questions:

– Do you know exactly how the advisor is getting paid, how much and by whom?

– Can you see where the conflict of interests might be so you can evaluate whether they are coloring the advice you are receiving?

Requiring transparency will eliminate the vast majority of advisors working for banks, insurance companies, brokerage firms and almost anyone selling commissioned financial products. Why is transparency important? It is quite simple. If someone else is paying the bill, their interests will likely come before yours.


The second thing on your checklist is do they promise the impossible? Ask yourself these questions:

– Do they promise unrealistic returns?

– Do they claim they can predict which way the market will go or pick the stocks that will do better than average?

– Do they tell you that an investment is no risk, or change the subject when you ask about risk?

All of these should set off alarm bells in your head. The first is most pervasive among unregulated entities promoting active trading strategies. The second will disqualify a lot of advisors – including an advisor that promotes an actively managed mutual fund. The third seems to be most common in the variable annuity and life settlement markets but it also occurs elsewhere. In February, 2008, the Auction Rate Securities market failed. $200 billion worth of ARSs that had been sold as a cash equivalent became illiquid.

Remember, there is no such thing as a risk-free investment. Risk takes many forms. Just because something doesn’t have market risk or credit risk does not mean it doesn’t have other forms of risk.


The third criteria is expertise. And you have to be careful here. We often infer expertise from things that are meaningless. Being a celebrity doesn’t make you an expert. Having a newspaper column, TV show, radio show or having written a book doesn’t make you an expert. Having hundreds of millions or even billions of dollars of assets under management doesn’t make you an expert. Ask yourself these questions:

– Is the advisor recommending the same thing a hundred other advisors would or could?

– Is there any original thinking going into how to solve your specific financial challenges?

– Can the advisor back up their recommendations, with empirical data, from unbiased researchers, supporting their recommendations?

My favorite definition of expertise comes from Mark Sanborn. Expertise is the ability to synthesize existing ideas and think creatively – to add new knowledge and contribute new ideas to your domain of expertise. If your advisor spends most of his time reading about sales skills or practice management rather than the latest academic research, that should be a red flag.

Behavioral Finance

And finally, knowing, as we do, that investors rarely act in a completely rational manner as traditional economic theory would suggest, and knowing that when it comes to investing, our emotions are our worst enemy, if your advisor doesn’t have some sort of emphasis on the behavioral component of investing, I would be concerned. Ask yourself these questions:

– Does the advisor address the behavioral component of investing in their presentation or materials?

– What safeguards or mechanisms are in place to keep me from sabotaging my portfolio in a fit of fear or greed?

– What safeguards or mechanisms are in place to keep the advisor from sabotaging my portfolio in a fit of fear or greed?

The Quantitative Analysis of Investor Behavior, done each year by Dalbar, tells us that over the twenty year period ending in 2005, the stock market averaged roughly 12%. Over that same period, the average stock mutual fund averaged roughly 9%. The average stock mutual fund investor? Only 4%!

The difference between 4% and 9% is the result of buying and selling at the exact wrong time and what causes that is fear and greed. That’s the low hanging fruit! If an advisor doesn’t emphasize the behavioral aspects of investing, they are pretty limited in what they can do for you. Those are my four, although there could certainly be more. I am curious what you think – about these and about what you would add to the list.