Part of our job as a fee-only retirement financial advisory firm is to evaluate the investment products/proposals that our clients receive from the financial institutions that they have relationships with. When these proposals are shown to us, we notice a common phenomenon. Clients are often sold on investment opportunities that follow the latest investment trend. We find that we can usually guess with high accuracy what investment plan our clients will show us even before we see it. What appalls us most is that they sometimes put most of their investable assets into it, even if it is not in their best interest. To see why this is the case, you need to understand the way the so-called “wealth management” game is played.
The wealth management industry is made up of 3 main players. The product manufacturers (such as the insurance companies, the investment fund managers) that design insurance policies and investment products. The distributors (such as the banks, insurance agents, financial advisers and online portals) that sell these products, and you, the consumer of the products that they produce and distribute (See Diagram 1).
When you buy an investment product, you pay front-end fees (commissions) to the distributors. You pay annual management fees to the product manufacturers (a portion of that is passed along to distributors as ongoing trailer fees). In addition, to motivate the distributors to sell their products instead of the competitors’, some product manufacturers even resort to paying soft commissions (such as providing computer terminals, paying for the marketing blitz of the distributors) and giving incentives (such as extra cash for top distributors or oversea trips) to the distributors.
For the consumer (you), investing through these products is clearly very costly. Thus, for the consumer to make a good return from this, the investment results of these products need to be stellar given that they must overcome the fees that are levied regardless of actual performance.
Can you see why even if these products are not in your best interest, distributors are so enthusiastic to get as many products off their shelves as possible?
They Work On Your Weakness
So how do some distributors get you to buy plenty of products?
Recently, one of our clients forwarded an email by his private banker to us. In that email, he was strongly encouraged to subscribe to a product that has “no downside, unlimited upside”. Sounds familiar? Before even delving into the details of the product, we knew that it had to be a capital guaranteed/protected structure. These products were invented to work on your fear of loss. When you invest in these products, usually a large proportion of your monies (about 70-80%) are used to buy zero-coupon bonds with the remaining invested into derivatives. At maturity (usually in the region of 5 years and above), you get back at least your principal. So, have these products done well? Well, yes, if you consider that it raised tens of millions for the distributors & product manufacturers each time. But if you really study their long-term performance you may not be able say it was successful.
They Focus On A Speculative Theme
Some months ago, another of our clients was asked to invest a substantial portion of her investable assets into a China-focused mutual fund. She was told that China is now “hot” and she should not miss this “golden opportunity” to invest in the fastest growing economy of the world. I told her that she had been about to become a victim to the wealth management game. New products chasing new investment themes are always being launched. Many of these products are developed to work on the speculative nature of humans. Over the past few years, products such as technology mutual funds, income/yield-generating mutual funds and China/India-focused mutual funds were launched and sold aggressively to consumers. The latest to join the bandwagon are the commodities/energy mutual funds as well as investment products focusing on luxury brands and climate change. The reason for the launch of these products is the very reason why you should avoid them. Prices have gone up so high and everyone wants to get onto it. Many technology investors will remember the technology bubble in 2000 – their investments went down as much as 80%! Ironically, most of them were also launched in the year 2000 itself.
All of us need to have our wealth properly managed. And what wealth managers should do for you is to meticulously study and understand your needs and carefully design a diversified investment portfolio that has little to do with what is the latest trend. Good managers should coach you on the risks and returns you should expect and monitor your investments closely, occasionally tweaking them to make sure they achieve your investment objectives. It is a long and tedious process, but that is what wealth management should be. Your wealth managers should not be compensated by how fast and in what volume they can sell products to you but by how much work they do and how well they have performed for you. All of us are compensated the same way in our jobs, so why should it be different for those wealth managers who supposedly work for us?
Sometimes, I get disillusioned by what goes on in the wealth management industry. But this game of wealth management can only be played when all 3 parties are involved. If you know how this industry currently works and choose not to be a part of it, there is hope for all of us. This year, make a resolution, let wealth management work for you instead of becoming a victim.
The writer, Christopher Tan, is Chief Executive Officer of Providend, a Fee-only Retirement Financial Adviser. Besides being financially trained, he is also an Associate Certified Coach with the International Coach Federation. The edited version has been published in MillionaireAsia’s Jan-Mar 2008 Issue.
For more related resources, check out:
1. Here Are The Top 3 Attributes Of A Good Financial Adviser
2. Using Life Insurance As A Savings Instrument?
3. Elements Of Wealth And How It Is Built | Investment Series
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