Modern Aesthetics | Part 2: Is Your Financial Advisor Working for You?
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Part 2: Is Your Financial Advisor Working for You?

Ask these important questions to find out what your advisor is doing for you.
By: David B. Mandell, JD, MBA and Andrew Taylor, CFP


As we discussed in the first part in this series in the May/June issue of Modern Aesthetics®, we have seen a sharp increase in the last few years of questions about how investment firms make money from advising their clients. A 2011 survey by Cerulli Associates and Phoenix Marketing International found that nearly two out of every three investors in the survey were confused about how they were paying their advisors.1 This issue also garnered attention in 2012 when a high-ranking Goldman Sachs employee resigned publicly through an Op-Ed piece in The New York Times. The employee cited corporate culture as the primary reason for his departure, saying “the interests of the clients continue to be sidelined in the way the firm operates and thinks about making money.”2 If this occurs at Goldman Sachs, whose clients include the most sophisticated financial firms in the world, it can certainly also occur at any physician’s chosen investment firm.

In part one of this article, we requested that you ask your advisor if they owe you a fiduciary duty as a client, and suggested that you ask for a detailed explanation of how your advisor is compensated. Visit modernaesthetics.com if you missed the first two questions. This second part will provide three additional questions to help you uncover potential conflicts that may not be obvious to the typical investor.

QUESTION #3: Does your advisor’s firm make money in other ways on your individual investments?

Request clarification on the ways that your advisor’s firm may receive financial benefit from the securities you own in your portfolio. As an example, mutual funds commonly offer revenue sharing arrangements with a broker dealer firm. In this scenario, your advisor at broker-dealer firm “XYZ” is receiving security analysis provided by its research department, which creates a “buy list” of securities. Unbeknownst to you, XYZ receives compensation from the fund company offering the recommended products. The result is a higher fee to you, the investor. You will not see these fees appear as a line item on your statement; they will be hidden within the underlying investments. This lack of transparency will not only prevent a client from recognizing the true cost of the relationship, it may create a bias in the research provided to the client’s advisor. This scenario can apply to closed end funds, exchange traded notes and other securities, which will impact the bottom line of the firm, even if your investment representative may not receive additional compensation.

Example: Discount brokerage firm XYZ offers to manage client assets at a reduced cost of 0.80 percent of assets under management for Client A. The rep at XYZ purchases $150,000 of retail shares of a bond fund with an operating expense of 0.75 percent. The rep does not receive compensation for choosing this fund; however his firm (XYZ) receives revenue sharing directly from the fund company. A registered investment advisor for client B charges one percent for his services and purchases institutional shares of the same fund with an operating expense of 0.46 percent. RIAs often have access to the lower cost I shares offered by certain mutual fund families. In this scenario the “discount” brokerage relationship results in a slightly higher cost to client A because of hidden revenue sharing, despite charging a lower management fee for their service.3

Do This Now

Request clarification on the ways that your advisor’s firm may receive financial benefit from the securities you own in your portfolio. For example, mutual funds commonly offer revenue sharing arrangements with a broker dealer firm. In this scenario, your advisor at brokerdealer firm “XYZ” is receiving security analysis provided by its research department, which creates a “buy list” of securities. Unbeknownst to you, XYZ receives compensation from the fund company offering the recommended products. The result is a higher fee to you, the investor.

QUESTION #4: Does your advisor utilize proprietary securities?

Proprietary products are not always easily recognizable, as they can be branded under a different name. In-house products are not necessarily poor investments at the moment the recommendation is made to a client. The problem arises when circumstances change and it is no longer in a client’s best interest to continue to own the underlying security. Will the “in-house” research recommend that their team of advisors liquidate the position in each of the firm’s client accounts? Consider the impact of mass redemptions in a proprietary security. Who is going to be on the other side of that trade?

Example: XYZ firm runs a highly rated international bond fund with heavy exposure to European bonds. A team of brokers are looking out for their clients and contacts their research team to express concern about the recent drop in price of the investment. The research team of XYZ assures the brokers that they have adequately hedged the portfolio. A month later, concerned about the potential liability of a poorly performing investment, XYZ firm removes the fund from the institutional portfolios they are managing. The large redemptions create a significant drop in the price of the fund. A notification is then sent to the brokers explaining the firm’s position after the price drop has occurred. The individual investor has faced substantial losses, while the firm has minimized the damage to their largest institutional clients.

QUESTION #5: Does the advisor’s firm engage in investment banking activities?

If the answer is yes, determine how your financial professional (and the firm) is compensated on your purchase of that investment. What is the incentive of the firm to see that the entire offering is filled?

Example: There are countless examples of Initial Public Offerings where individual investors have been sold on tales of tremendous growth opportunities, only to experience disappointing returns and a substantial loss on their investment. The recent handling of the high profile IPO of Facebook has resulted in numerous lawsuits and continues to raise questions about the inherent conflicts in the underwriting process.

Evaluating Your Relationship with Your Financial Advisor

This is not a complete list of the questions you should be asking your current or prospective advisor. One of our objectives in this article was to help you identify the potential conflicts in a traditional brokerage relationship, where costs are often much higher than they initially appear. A registered investment advisor such as OJM Group typically charges a fee that represents a percentage of the assets managed and does not receive compensation from the investments that are recommended. Our hope is that by asking the five questions we have referenced in our two articles, investors will have a greater understanding of the potential factors that may influence the recommendations of their advisor. If every trade made on your behalf is not unequivocally for your benefit, it is time to re-evaluate the relationship you have with your financial service provider.

For a free hardcopy of For Doctors Only: A Guide to Working Less & Building More, please call (877) 656-4362.
If you would like a free, shorter eBook version of For Doctors Only, please download our “highlights” edition at
www.fordoctorsonlyhighlights.com.

David B. Mandell, JD, MBA, is an attorney and author of five national books for doctors, including FOR DOCTORS Only: A Guide to Working Less & Building More, as well a number of state books. He is a principal of the financial consulting firm OJM Group (www.ojmgroup.com), where Andrew Taylor, CFP works as an investment advisor. They can be reached at 877-656-4362 or mandell@ojmgroup.com.

1. “You Charge What?,” Gleason, Jerry: Wealth Management.com accessed on October 15, 2013via url: http://wealthmanagement.com/practice-management/you-charge-what

2. “Why I am Leaving Goldman Sachs;” Smith, Greg, New York Times, March 12, 2012 accessed on April 2, 2013 via url: http://www.nytimes.com/2012/03/14/opinion/why-i-am-leaving-goldman-sachs.html?pagewanted=all&_r=0

3. Operating expenses represent actual net expense ratio as of 3/31/2014 of Pimco Total Return Fund Class D PTTDX and Pimco Total Return Fund Institutional Class PTTRX

Disclosure: OJM Group, LLC. (“OJM”) is an SEC registered investment adviser with its principal place of business in the State of Ohio. OJM and its representatives are in compliance with the current notice filing and registration requirements imposed upon registered investment advisers by those states in which OJM maintains clients. For information pertaining to the registration status of OJM, please contact OJM or refer to the Investment Adviser Public Disclosure web site (www.adviserinfo.sec.gov). For additional information about OJM, send for our disclosure brochure as set forth on Form ADV.