Now that stocks are coming back, you may be tempted to call a broker to get back in the game.
Be careful. Although the market cops have cracked down on the industry for its shenanigans since the tech and housing bubbles, there are still a lot of secrets your broker will never volunteer.
And what you don't know can hurt your returns.
Now, you're unlikely to be so unfortunate as to wind up with the likes of former Citigroup (C, news, msgs) broker William Joseph Boyle, who regulators say took $531,000 in savings from a 64-year-old nun last year. Or former Morgan Stanley (MS, news, msgs) broker John Edward Mullins, who was accused of taking $11,000 from a 97-year-old widow in a nursing home and using it to buy wine at a posh restaurant, clothes and a vacation at a Four Seasons Hotel in London. (In settling their cases, these former brokers neither admitted nor denied the allegations.)
But the hard, cold reality is that even honest brokers can find themselves entangled in a complex mesh of conflicts of interest. They have more to consider than your best interests when advising you on investments.
So while you're probably turning to a full-service broker -- as opposed to, say, an online outfit that just makes trades -- in the belief that you'll find a helpful soul who is well-trained in investing, you're also talking to a salesman.
To get the lowdown, I talked with regulators and other experts, including a former industry insider who spent 18 years in the field, rising high enough that he recruited and trained hundreds of other brokers.
"I escaped the dark side," says Dave Loeper, who now advises investors at Wealthcare Capital Management and has summed up much of what he learned in a book called "Stop the Investing Rip-off."
Based on what these experts had to say, here are eight secrets your broker won't tell you:
No. 1: I was hired for my people skills and charm, not my investing skills.
"The skill set that qualifies a person to be a broker is nothing like what the public perceives," Loeper says. "You are more likely to become a broker if you were successful selling used cars than if you have a financial-analysis degree."
Brokers have to be polished and have good persuasion skills. They also have to be thick-skinned, aggressive, capable of dealing with rejection and good at coercion. Knowledge about financial products comes much lower on the list of traits hiring managers look for in brokers.
And beware of the nice certificates on the wall. They might not be worth the paper they're written on. For example, the title of certified annuity adviser may make you think you're talking with someone who knows all the ins and outs of annuities. But the title requires only about two days of self-directed study to attain.
"It's important for investors to understand that not all professional designations are created equal," cautions John Gannon, who runs investor education for the Financial Industry Regulatory Authority, or FINRA, which oversees brokers. Likewise, be skeptical of ratings like "Top 100 Advisers," because a lot of those rankings are a charade, he says.
As you might suspect, brokers selling financial products they don't know much about can lead to huge disasters. During the credit bubble, thousands of investors bought products called auction-rate securities from major brokerages like Merrill Lynch, Deutsche Bank (DB, news, msgs) and Citigroup, thinking they were relatively safe alternatives to money market funds.
Unfortunately, examples of brokers pushing products they don't understand -- with disastrous results for customers -- pop up all the time. Just a few months ago, for example, FINRA fined HSBC Securities $375,000 for putting unsophisticated retail investors into products called inverse floating-rate collateralized mortgage obligations, a highly complex play on repackaged mortgage debt. In settling the case, HSBC made up $320,000 in losses sustained by 43 investors.
(These brokers and brokerages, like all the ones I mention here because they were fined and sanctioned by FINRA, neither admitted nor denied details provided by regulators in settling their cases.)
How to fight back: Be sure you read all the paperwork and fully understand anything you are investing in. If it seems too complicated, stay away. To check on the quality of broker credentials, look here.
No. 2: I may need to put my interests above yours to make a buck.
Unlike investment advisers who run managed investment accounts or mutual funds, brokers aren't obliged to put your interests above theirs. That could cost you money. "The nature of the brokerage industry is that it's filled with conflicts of interest that will eventually hurt consumers," Loeper says.
For example, brokers typically have a "preferred" mutual fund list. That just means "the fund family paid a bribe to be on that list," says Loeper. Likewise, if a broker works for a company with a mutual fund arm, he's likely to push those funds before others.
Those might be good funds, mind you. It's just that the broker has no incentive to tell you about other funds that might be better or cheaper.
Brokers get paid commissions to sell investment products, giving them a financial incentive to sell you whatever pays the highest commission. "It might not be coming out of your pocket, but there may be incentive to sell one product over another," Gannon says.
Some brokers also do flat-out bad things to earn more in commissions. Merrill Lynch and UBS Financial Services brokers recently cost customers millions by "churning" accounts. This means they rapidly bought and sold funds that should have been long-term investments, earning more commissions in the process, FINRA says.
Last year, FINRA busted a former New York broker for putting more than a half-million dollars of the life savings of a 90-year-old nursing home resident into a speculative Internet startup. Presumably, part of the motive was the $76,650 in sales commissions the broker earned on the trade.
How to fight back: Before agreeing to an investment, ask how much your broker is making on the deal, and how.
No. 3: Make this investment today and I win a TV.
Even though investment advice about your hard-earned money seems like it should be sacred, what's driving it could be a contest for a trip to Florida or a TV.
Last year, FINRA fined Fifth Third Securities $1.75 million and ordered it to pay more than $260,000 in restitution for putting elderly customers' money into variable annuities, tying up their money for the long term, while these customers needed access to their cash. Brokers also swapped other customers out of variable annuities into new, similar ones. The sales commissions helped one broker and his supervisor win 42-inch flat-screen TVs.
Earlier this year, FINRA fined a broker who worked at Cambridge Legacy Securities in Dallas and ordered him to pay $413,000 in restitution to customers after selling almost $6 million worth of an investment product -- from a vendor who gave him an undisclosed gift.
How to fight back: You can ask, but don't expect the complete answer.
No. 4: I've been sanctioned by the industry, but I'm still a broker.
Brokers can get caught red-handed doing all sorts of naughty stuff and get right back in business after fines or a little timeout. Those Merrill Lynch brokers mentioned above who cost investors millions by overtrading funds in their accounts? They were suspended for 15 days.
Stricter punishment might have helped innocent customers of Westpark Capital of Los Angeles. Several of the Westpark brokers who performed unauthorized trades and overtraded their accounts had lengthy disciplinary records, and they came from brokerages shut down by FINRA for violations, like Stratton Oakmont.
How to fight back: You can check a broker's disciplinary record and work history with FINRA here. Check with your state regulators, too. Be wary of a broker who changes employers a lot.
Continued: This stuff we call research
