My goal today is to cover two points: one, that every stock, bond or raincoat has its price, and two, brokers are not fiduciaries, and care as much about how you do over the long term as how well they do now -- that is, whether you buy what they have to sell today. (My allergies are really bad today, and I'm in a lousy mood. There's comment wisdom about not driving angry, but I've never heard anything similar on blogging.)
Photo by John Keefe - All rights reserved
One point that did not get enough emphasis in yesterday's hearings was the idea of pricing risk. There is a maxim in insurance, which carries over to investing: "There are no bad risks, only bad prices." I agree with that -- go ahead and buy a mortgage security that will have a lot of defaults, just be sure the price you pay takes that into account.
Last evening I attended a panel discussion on, of all things, the social role and future of financial blogging. It ended about 8:30, and I walked out of the building, turned south from 40th Street onto Broadway, and saw a clutch of maybe 40 people picking over a couple of rolling clothing racks full of stuff wrapped in plastic. "Raincoats! Designer raincoats! We don't have many left, and when they're gone, they're gone," barked the spokesman.
How apt. People thinking they will get a bargain from a guy selling stuff on the street -- get this -- in the dark. (It was away from Times Square so you couldn't see much.) Make up your mind on the spot, before the guy next to you takes it, without much chance to check it out, because they'll be gone soon.
Today the guys are out selling designer jewelry or whatever, with the same feigned urgency. They don't care about what they're selling, just that they move it at a price, and quality control is up to the buyer.
I got a similar impression from Senator Levin's reading of the breathless e-mails from the sales groups at Goldman. (I worked in the brokerage industry for years a long time ago, and saw all that stuff first hand.) "Justin, find someone to buy this stuff!" "Sure, it's designer, everything has to be designed by somebody, right?"
Goldman expected the buyers to doing their own checking on quality and price. Sure, there were credit rating agencies saying how great the stuff was, and Goldman was paying them to say so, but hey, we just sell the stuff, we don't guarantee it. Paying the right price is up to the buyer.
In fact, in the institutional market, that checking is up to the buyer. Somewhere along the line, the institutions' clients were paying them a fee for just that. In my opinion of this issue, Goldman is at fault for selling shoddy merchandise, but the buying institutions are just as responsible. (See my Tony Soprano imagery from last week. Shouldn't you be extra careful when you sit down at a poker table with Tony Soprano?)
Second point: Retail stockbrokers, pick whatever firm you want, operate just the same way. "OK, we've got a bond yielding X percent, and after Monday you won't be able to get them any more, so if you want it, you have to buy it right away."
This is the pitch a retail broker, one of the big ones, made to my Aunt Emma last week, and she called me to check it out. A CD was rolling over, and the guy said she needed to reinvest it, and there was a special bond he wanted her to buy. Emma has been a great investor, but she is 82 and these days the brokers talk faster than she can take it in, notwithstanding my loading her with questions. (I'm being very kind to the brokers here.)
Turns out it's a new closed-end fund investing in the Build America Bonds program. Doesn't that sound wholesome? (It's a Treasury program that subsidizes municipal borrowing, to make the bonds more palatable to individual investors.) The fund manager, Nuveen, raised something like $400 million, but since it's new no one knows what the yield will be. Most municipals are pretty long term, which means the price will get crushed in a year or two when interest rates get as high as they ought to be.
The urgency, wouldn't you know, is because the guy won't earn as large a commission if she buys it after the issue. The "concession," or special commission the brokers earn to get the new thing out the door, was $0.60 a share. If she had waited a few days she could have commissions in the pennies, and used that money to buy more shares, but of course the broker is not obligated to tell her that.
But wait -- it gets better. I just spoke to the broker; he told me the fund was going to use 25% leverage to boost the yield to an expected seven percent. A special high commission, and leverage too.
It's just like Goldman: the broker is not telling Emma the bad stuff, and expecting her to find it. I look forward to the internal e-mails on this one.
In the financial firmament, brokers are not "fiduciaries." Fiduciaries are people you hire to manage money for you 365 days a year, not just sell you stuff now and then at high prices and fees, and they are obliged by law to put your interests before theirs. (My colleague Jill Schlesinger has covered the topic capably.)
By and large, brokers are not fiduciaries, and even if they have an office on Main Street their goal, like that of Goldman Sachs, is to sell you stuff and let you worry about whether it performs or not.