Best Investments Sales Pitches I'm Not Buying: Bronze Medal

Last Updated May 28, 2010 10:43 AM EDT

I recently attended the Money Show in Las Vegas. I went from booth to booth in search of the most compelling and totally misleading sales pitches I could. This week, I'm going to award the bronze, silver, and gold medal winners from the show. I'm not going to name the two runner-ups because I was "under cover," but will provide the gory details behind this year's gold medal winner when I announce it on Friday. In some ways, I feel bad picking on the little guy. It would be much more gratifying to expose the Goldman Sachs of the world for their self serving advice.

Bronze Medal - Managed Futures Money Manager.
The pitch
With volatile financial markets, the premiums on selling put and call options are hitting an all time high. Since, historically, 85 percent of options expire worthless, we only sell puts and calls on stocks, indexes, and commodities. Thus the manager wins 85 percent of the time. It's a fast paced market, however, so you've got to know what you are doing. Just invest with us and we will make money for you.

The appeal
Winning 85 percent of the time is pretty compelling. Heck, even winning 60 percent of the time would be compelling enough for most of us, not to mention enough to nicely pad our bank accounts. I haven't checked the numbers, but I suspect what the trader said was true in that only 15% of the options they sell costs them anything.

The reality
After playing dumb for a while, I started to ask a few questions such as "aren't options and futures a zero sum game?" The salesman answered "no," but I noted that if you make money selling an option, doesn't the person buying that option have to lose the exact same amount, before costs? The head trader intervened, realizing I wasn't as clueless as I first might have appeared. He agreed.

Next I noted that market aren't really stupid for long periods of time. He may win 85% of the time, yet the 15% he loses is going to be pretty big. For example, selling a necked call gives someone the right to buy a stock you don't own, and gives the manager limitless downside exposure. The trader conceded that the magnitude of the losses were much greater than the smaller gains from the wins.

This manager charged two percent of assets managed plus 20 percent of any gain. In essence, his pitch was to get paid to gamble with your money. The poor souls at the show probably don't realize they were giving this manager the incentive to take the biggest gambles he can with their money.

The reality is that this makes the odds and the risks in the casino look pretty good. Anyone willing to give me money to take to the Las Vegas tables and let me charge you two percent plus 20% of any winnings? I hope not.

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    Allan S. Roth is the founder of Wealth Logic, an hourly based financial planning and investment advisory firm that advises clients with portfolios ranging from $10,000 to over $50 million. The author of How a Second Grader Beats Wall Street, Roth teaches investments and behavioral finance at the University of Denver and is a frequent speaker. He is required by law to note that his columns are not meant as specific investment advice, since any advice of that sort would need to take into account such things as each reader's willingness and need to take risk. His columns will specifically avoid the foolishness of predicting the next hot stock or what the stock market will do next month.