The reputation of investment professionals
Investment and financial professionals are not always portrayed in the best light in film and culture. Sometimes, the supposed professionals are just inexperienced pawns. The naive trainees in “Boiler Room” are manipulated into facilitating a pump-and-dump fraud scheme. Sometimes, there’s a behavioral distinction between the villains and heroes, as in “It’s a Wonderful Life”, which pits the monopolist banker Mr. Potter against the virtuous George Bailey’s Building and Loan. Occasionally, there are stories where investment pros are portrayed in an unabashedly positive light; Will Smith’s rags-to-riches story as a stockbroker in “The Pursuit of Happyness” comes to mind. However, for the most part, the money-men are portrayed as liars or thieves. Here, there are many examples including “Wall Street”, “Rogue Trader”, “Margin Call”, and so on.
These are fictional examples, but there are plenty of real life villains to go around. Investment and financial professionals work at the nexus of wealth, so it becomes a tempting starting point for the crooks. There have always been hucksters, going back in time to pyramid & Ponzi schemers like Charles Ponzi, but there are recent cheats like Bernie Madoff or Jordon Belfort.
A few bad apples or a bigger problem?
You might think real-life investment professionals would be quick to distance themselves from the fictional criminals, but a strange sense of tribalism sometimes rears its ugly face within the largest wirehouses on Wall Street. Here’s an example: in 2013, Business Insider reported on an advance screening of “The Wolf of Wall Street”, which took place directly across the street from a large investment bank headquarters on Wall Street. The film’s audience, mostly bankers and investment gurus from Manhattan’s financial district, were cheering for the bad-guy - applauding his theft, extravagance, and resistance against the law.
The corrupt worldview of the moneyed-elite versus the unsophisticated-public (targets to be stripped from their hard-earned dollars) has permeated Wall Street. It has created a tacit license for unethical business practices, all the way up the supply chain. There are almost too many examples to list. Wall Street executives have been caught scornfully calling their trusting clients “Muppets” and the public “peasants”. Brokers often target gullible and untrained clients with the deep pockets to sell unnecessarily complex and expensive financial products (at best), or misleading, deceptive products at worst. The primary point is this: Wall Street has a legacy of unethical behavior which, unfortunately, hasn’t been limited to a few isolated bad actors. Certainly, there are true individual criminals who have worked in the industry, but more insidious is the pervasive culture which sustains toxic values, whether it’s taken to an illegal extreme or an unethical breach.
Sometimes the public will see a reckoning of accountability. In 2014, the small ETF investment shop F-Squared got sued by the SEC for making false statements. As a result, the business filed for bankruptcy and the CEO was ultimately ordered to pay $12.4 million from earnings and civil penalties. But more often, when a large institution gets caught breaking the rules, it will be forced to make a few token changes while business goes on as usual. In 2016, a large money-center bank got caught opening unauthorized accounts to generate fees, a “pattern of extensive violations of law that harms millions of consumers.” This violation was not limited to a single broker or branch office, but a systemic flaw in the incentives created by the bank. In response to the lawsuits, the money-center bank paid $185 million in fines, fired a few folks, and started a new public relations campaign to earn back public trust. But is this enough to change the culture of the company? There are additional remedies being considered for this bank – swapping out their board of directors for example – but the overarching truth is this: changing company culture is hard.
Any attempt to change the culture and accepted business practices will be fighting against a human inertia, entrenched attitudes, and established business practices. Most importantly, the incentive structure which fostered a toxic culture has not changed. If a company which is too-big-to-fail commits a crime and gets a relatively minor penalty, why should they change?
Given the burden of evil fictional counterparts and the occasional real life exposé, it comes as no surprise that the reputation of investment professionals is quite low. Both the stories and the histories have eroded the public’s trust in financial professionals. Every year, Gallup polls people about ethics and honesty for a variety of different occupations. Nurses (82%), military officers (71%), and teachers (66%) are among the most trusted professions. Lobbyists (8%), business executives (16%), and bankers (25%) are among the least trusted professions. For an industry supposedly built on trust, that’s a sobering truth.
Find a trustworthy consultant
When hiring an investment manager, consultant, or any sort of financial professional, there are a few steps that you can take to improve your changes of picking someone – an individual or firm – worthy of your trust.
Tip #1 – Hire a fiduciary
One reason Wall Street is so resistant to the new fiduciary rule proposals is because they have acted for hundreds of years in their own interest. As a reminder, a fiduciary is defined by their legal duty to act in good faith for your best interest. Westminster Consulting has always promoted fiduciary culture, so our first tip is obvious: hire a fiduciary. Specifically, hire a fiduciary willing to accept that legal status in writing. There should now be a legal backstop against the worst violations.
Tip #2 – Require a full fee disclosure, in ordinary English
If you are selecting a consultant for a qualified retirement plan, there is a specific legal disclosure - the ERISA 408(b)(2) disclosure - which must disclose four key features of fees: the entirety of their fees charged, the source of these fees, a description of services provided, and fiduciary status. We see no reason these fee disclosures should be limited to certain retirement plans; every type of consumer should know what they’re paying and what they are getting for it. Wall Street has repeatedly demonstrated its willingness to conceal financial incentives which are aligned against their customers. Don’t let them get away with it. Understand their incentives. For example, watch out for fees which change depending on how you’re invested. When a consultant gets higher fees if their clients utilize certain products, the consultant tends to create reasons to recommend them.
Tip #3 – Get independent verification
When making any choice, large or small, we tend to relay on testimonials and referrals. Unscrupulous firms manipulate this fact to create their own dependant body to supply them with recommendations and accolades, inflating their own importance and esteem. Fortunately, for most professions, there are advisory boards responsible for independent oversight – which one you use will depend largely on the type of professional you’re looking for.
Specifically, when researching consultants, the first thing to request is a Form ADV, parts 1 and 2. Form ADV is a required document for the Securities and Exchange Commission. Among other things, it requires disclosure of past disciplinary action. Notably, the Form ADV is absolutely not a recommendation on behalf of the S.E.C., but it should give careful readers the opportunity to ask more questions of prospective consultants. Second, there are independent certification organizations that work for the investment and financial industry. Third, and perhaps most insightful, you may request client referrals for both current and previous clients to provide insight into the work and potential shortcomings of a prospective consultant.
These tips should help you, whether you represent only your personal and household interests or if you are acting on behalf of an institution, like a retirement plan or a charity. Better still, the list of trustworthy professionals available (after applying the common sense tips we’ve recommended) is large and broadly encompasses a variety of qualified firms. We continue to advocate for the ongoing trend where individuals and institutions hire professionals willing to act in accordance with higher business standards.