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I am a fiduciary in my work that I do for my clients. I am also the largest investor in my own strategies, promising to keep a minimum of 80% of my liquid net worth in my strategies, and 50% of my total net worth in them (including my house, etc.).

I believe in eating my own cooking.  I also believe in treating my clients well.  I’ve treated part of this in an earlier post called It’s Their Money, where I describe how I try to give exiting clients a pleasant time on the way out.  For existing clients, I will also help them with situations where others are managing the money at no charge, no payment from another party, and no request that I manage any of those assets.  I do that because I want them to be treated well by me, and I know that getting good advice is hard.  As I wrote in a prior article The Problem of Small Accounts:

We all want financial advice.  Good advice.  And we want it for free.  That’s why we come to the Aleph Blog, where advice is regularly dispensed, and at no cost.

But… I can’t be personal, and give you advice that is tailored to your situation.  And in my writing here, much as I try to be highly honest, I am not acting as a fiduciary, even though I still make my writings hold to such a standard.

Ugh.  Here’s the problem.  Good advice costs money.  Really good advice costs a lot of money, and is worth it, if you have enough money to spread the cost over.

But when you have a small account, you have a problem in getting advice.  There is no way for someone who is fiduciary (like me) to make money addressing your concerns.  That is why I have a high minimum for investing: $100,000.  With that, I can spend time on clients, even helping them with assets from which I make no money.

What extra things have I done for clients over time?  I have:

  • Analyzed asset allocations.
  • Analyzed the performance of other managers.
  • Advised on changing jobs, negotiating salary, etc.
  • Explained the good and bad points of certain insurance companies and their policies, and suggested alternatives.
  • Analyzed chunky assets that they own elsewhere, aiding them in whether they keep, sell, or sell part of the asset.
  • Analyzed a variety of funky and normal investment strategies.
  • Advised on buying a building, and future business plans.
  • Told a client he was better off reinvesting the slack funds in his business that needed financing, rather than borrow and invest the funds with me.
  • Told a client to stop sending me money, and pay down his mortgage.  (He has since resumed sending money, but he is now debt-free.)

I take the fiduciary side of this seriously, and will tell clients that want to put a lot of their money in my stock strategy that they need less risk, and should put funds in my bond strategy, where I earn less.

I’ve got a lot already.  I don’t need to feather my nest at the expense of the best interests of my clients.

Over the last six years, around half of my clients have availed themselves of this help.  If you’ve read Aleph Blog for awhile, you know that I have analyzed a wide number of things.  Helping my clients also sharpens me for understanding the market as a whole, because issues come into focus when the situation of a family makes them concrete.

So informally, I am more than an “investments only” RIA [Registered Investment Advisor], but I only earn money off of my investment fees, and no other way.  Personally, I think that other “investments only” RIAs would mutually benefit their clients if they did this as well — it would help them understand the struggles that they go through, and inform their view of the economy.

Thus I say to my competitors: do you want to justify your fees?  This is a way to do it; perhaps you should consider it.

Postscript

Having some people in an “investment only” shop that understand the basic questions that most clients face also has some crossover advantages when it comes to understanding financial companies, and different places that institutional money gets managed.  It gives you a better idea of the investment ecosystem that you live and work in.

In general, I don’t like books on personnel management.  That’s mostly because good management techniques are mostly obvious, and there are typically a lot of good strategies that are somewhat different, and most of them will work, if applied with a little common sense.  Pick one.  Apply it.  Be consistent.  Get feedback.  Adjust.  Repeat.

No one has the “holy grail.”  That is true of this book also.  What I appreciate about “The Difference” is its emphasis on creating a good culture.  I’ve worked in companies with good cultures, bad cultures and mixed cultures.  What Subir Chowdhury gets right is the key difference is attitude, and it flows from the top.

Some firms fail because employees are afraid to tell the truth.  That was true within areas of AIG when I worked for it.  Do you want a culture based on truth?  Be honest, ask for it from your bosses, and expect it from your subordinates.  Don’t punish anyone for telling the truth; instead reward it.

Some firms fail because of a lack of emphasis on quality.  The need for short-term profits outweighs quality products and services.  Low quality is a cancer — it can spread from employee relationships to products, services, accounting, vendor relations, marketing, etc.  Cultural change is needed, starting at the top.  If management doesn’t put quality ahead of short term profits, quality will not characterize a company.  Management has to lead efforts on quality by example, instructions, and rewards.  Employees won’t care about quality if management doesn’t care about them, and reward them for stopping bad quality even if it slows production.

The book takes an approach like this, only much better than I can.  It provides a cutesy acronym to summarize the approach for creating a great corporate culture, which to me trivializes ideas, but aids memory for others.

The author peppers the book with his experiences in his life  and work, from youth to the present.  I found those to be a mixed bag.  Like most people, a lot of it sounds like he is tooting his own horn repeatedly.  Many of them are quite instructive, a few aren’t.  I particularly found his example of giving to beggars to be weak.  Yes, the poorest need money, but what they need more is relationships.  The poorest lose relationships due to disease, accidents, substance abuse, selfishness on the part of their family and their own selfishness, an attitude of blaming the world around rather than look at their own failures, and more.

Giving them money does not break the problem; it often feeds the problem.  Creating relationships for them can allow them to reboot their lives, if they want to live a new life.  Don’t get me wrong; I’m no great shakes here.  I just know that the poorest need radical personal change if they ever want to escape their poverty.  Money won’t make the difference necessary most of the time.

That last rant aside, I liked the book and would recommend it.  It’s kind of expensive for its size, but maybe you want a short book that you can read in 1-2 hours.  You’ll get enough to make you think, and maybe make a difference.  It’s “good enough” to help you, but not outstanding.

Quibbles

Already mentioned.

Summary / Who Would Benefit from this Book

You may not need another management book.  If you need something short to motivate a need for corporate and personal change, this could be the book for you.  If you want to buy it, you can buy it here: The Difference: When Good Enough Isn’t Enough.

Full disclosure: The publisher asked me if I wanted a free copy and I assented.

If you enter Amazon through my site, and you buy anything, including books, I get a small commission. This is my main source of blog revenue. I prefer this to a “tip jar” because I want you to get something you want, rather than merely giving me a tip. Book reviews take time, particularly with the reading, which most book reviewers don’t do in full, and I typically do. (When I don’t, I mention that I scanned the book. Also, I never use the data that the PR flacks send out.)

Most people buying at Amazon do not enter via a referring website. Thus Amazon builds an extra 1-3% into the prices to all buyers to compensate for the commissions given to the minority that come through referring sites. Whether you buy at Amazon directly or enter via my site, your prices don’t change.

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Before I write my piece, I want to say a word about the virtue of voting for third party candidates for President.  Personally, I would like to see an option where we can vote for None of the Above, on all races.  That would allow us to break the duopolistic power of the Democrats and Republicans without having to have a viable third party.  The ability to reject all of the candidates so that a new election would have to be held with new candidates would be powerful, and would make both parties more sensitive to all of the voters, not just minorities on the left and right.

Still, I’m voting for a third party candidate mostly as a protest.  I consider the protest to be an investment, because it has no value for the current election, but may have value for future elections if it teaches the two main parties that they no longer have a stranglehold on the electorate.  The cost of doing so in this election for President is minuscule, because both candidates are dishonest egotists.

Character matters; if a person is not honest you will not get what you thought you were voting for.  In this election, more than most, people are projecting onto Hillary and Donald what they want to see.  Trump is not a man of the people, and neither is Clinton.  They are both elitist snobs; they are members of rival cliques that dominate their respective parts of the main country club that the privileged enjoy.

There is no loss in not voting for them.  If you want to send a message, vote for someone other than Clinton or Trump.

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Of Milk Cows and Moats

It’s become fashionable to talk about moats in investing as an analogy for sustainable competitive advantages.  Buffett popularized it, and many use it in investment analysis today.  Morningstar has made a lot out of it.

I’d like to talk about the concept from a broader societal angle.  This may look like a divergence from talk on investing, but it does have a significant influence on some investing.

I live in the great state of Maryland.  A while ago, I wrote an award-winning piece on publicly traded companies in Maryland.  My main conclusion was that many corporations are in Maryland because the founder lived here.  Other corporations were in Maryland because of the talent available to manage healthcare firms, defense firms, hotels, and REITs.  Only the last one, REITs, had any significant advantage imparted by the state itself — Maryland was the first state with a statute allowing for REITs.

Why do corporations leave Maryland?  Well, when a merger takes place, the acquirer usually figures out that the company would likely be better off reducing its presence in Maryland, and increasing its presence elsewhere.  Costs, taxes and regulation will be lower.  The countervailing advantage of an educated workforce is usually not enough to keep jobs here, unless that is the main input to what the firm does, such as biotechnology — hard to beat the advantage of having Johns Hopkins, NIH, and the University of Maryland nearby.

All of this suggests a model of businesses and people entering and leaving an area that is akin to the moats we describe in business.  Most businesses know that it will be expensive to move.

  • They will lose people, or, it will be costly to move them
  • There will be an interruption to operations in some ways.
  • The educational quality of people might not be as great in the new area.
  • Some taxes and regulations could be higher.

Thus to induce a move, another municipality might offer incentives of tax abatement, a low interest loan, etc.  The attracting municipality is making a business decision — what do they give up in taxes (and have to spend on services) versus what they gain in other taxes, etc.  The attracting municipality also assumes that there will be some stickiness when the incentives run out.  If you need an analogy, it is not that much different than what it takes to attract and retain a major league sports franchise.

What municipalities lose businesses and people?  Those that treat them like milk cows.  Take a look at the states, counties and cities that have lost vitality, and will find that is one of the two factors in play, the other being a concentrated industry mix in where the dominant industry is in decline.

The more a municipality tries to milk its businesses and people, the more the businesses begin to hit their flinch point, and look for greener pastures.  With the loss of businesses and people, they may try to raise taxes to compensate, leading to a self-reinforcing cycle that eventually leads to insolvency.

A municipality can fight back by offering its own incentives to retain companies and people.  This can lead to a version of the prisoners’ dilemma, or a “race to the bottom” as corporations play off municipalities against each other in order to get the best deal possible.  There is an analogy to war here, because the mobile enemy has significant advantages.  There is an analogy to antitrust as well, because municipal governments are allowed to collude against corporations, and it would be to their advantage to do so, if they could agree.

In a game like this, the healthiest municipalities have the strongest bargaining position — they can offer the best deals.  There is a tendency for the strong to get stronger and the weak weaker.  Past prudence has its rewards.  Present prudence is costly, both economically and politically, is difficult to achieve, and future people will benefit who will not remember you politically.

One more note: Maryland has another problem, which affects some of my friends in the industry who have Maryland-centric.investment management practices.  (My firm is national.  More of my clients are outside of Maryland than inside.)  When wealthy people in Maryland retire, their probability of leaving Maryland goes up, as the “moat” of their Maryland job disappears.  Again states can adjust their tax policies to try to retain people in their states.  On the other hand, some attempt to tax former residents who earned their pensions in their states, and things like that.

This is just another example of how municipalities have limits to the amount they can tax before the tax base erodes.

(Dare we mention how the internet is still costing states some of their sales taxes?  Nah, too well known.)

Upshot

When considering businesses that rely on a given locality, ask how the health of the locality affects the business.  It’s worth considering.  For those who invest in municipal bonds, it is a critical factor.  Particularly as the Baby Boomers age, weak municipalities will come under pressure.  Stick with strong municipalities, and services that would be impossible to do without.

Finally, think about your own life.  Is it possible:

  • that your firm could move and leave you behind?
  • that your taxes could rise significantly because businesses and people are leaving?
  • that your taxes could rise significantly because state employee benefit plans are deeply underfunded?
  • that your municipal job could be put in danger because of prior weak economic decisions on the part of the municipality?
  • that real estate prices could fall if the exodus of people from your area accelerates?
  • Etc.

Then consider what your own “plan B” might be, and remember, earlier actions to leave are better actions if you are correct.  The options are always lousy once an economic bust arrives.

Photo Credit: elycefeliz

Photo Credit: elycefeliz || Enron and some other US corporations have been ethics-hostile places also

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Yesterday I gave a talk on ethics to the incoming class at The Johns Hopkins Carey Business School.  As some of you might know, I received my BA and MA from Johns Hopkins in 1982 long before they had a business school.  It was fun to talk to all of the entering MBA students who came to the school from all over the world.  It largely serves international students.

At the end of my talk I took questions, both formally, and informally after the talk was over.  The biggest question was, “Mr. Merkel, what you say about ethics might be the best policy for business in the US, but when I return to my home country, it will not be well-received.  What should I do?”

This is a tough one.  I think people have an easier time missing out on gains by being ethical than losing one’s job.  But let me give a few ideas anyway.

  1. Many countries where business ethics aren’t practiced set themselves up for financial crises and scandals.  One strategy could be to bide your time and wait for the next large scandal or crisis.  Then suggest to your management (assuming your firm survived) that managing in an ethical way could prevent these problems, and potentially attract more business to your firm.
  2. Take a chance and try to create your country’s equivalent of Vanguard.  Low cost, mostly passive investing, owned by clients, limited management salaries, etc.
  3. Same as #2, but if you get the chance to start or run any firm, adopt ethical practices and make it a selling point.  You could be the start of cultural change.  (Now elements of that could prove difficult if there are government officials expecting bribes… how you work that out is difficult.  Friends of mine working as missionaries in corrupt countries tell me that you can still get things done without bribes, but it takes longer, with more effort.)
  4. Suggest to government ministers that a lack of ethics holds back growth.  Countries with no bribery, low corruption, and moderate regulations tend to grow faster.
  5. Propose small experiments in your firm testing whether an ethical approach will produce better results.
  6. Consider working for a foreign firm in your country if they have ethical standards.
  7. Consider gaining experience in a country other than your home country, and propose to that firm that they try setting up a subsidiary in your home country.
  8. On the side, develop a voluntary organization that promotes ethical business conduct.  Consider publishing some books that point out how unscrupulous business practices are harming most people.  Recruit well-known foreign businessmen known for clean business practices to come talk in your country.

I can’t think of anything more right now.  Readers, if you can think of other ideas, please mention them in the comments.  Thanks.

PS — One more note, having worked for a few firms that were ethics-challenged as far as accounting and sales practices went, I can say that trying to promote change from inside is tough.  Taking a job at another firm was my way out of those situations.  No surprise that almost all of those firms failed.

Picture Credit: Arturo de Albornoz || "Do unto others, as you would have others do unto you." -- Y'Shua Ha'Mushiach

Picture Credit: Arturo de Albornoz || “Do unto others, as you would have others do unto you.” — Y’shua Ha’Mushiach

This is an extension of a recent piece Decline Free Food.  Things have gotten worse with the mail situation at the Merkel house as I get older.  It’s not enough that AARP keeps sending us offers join.  (I keep a pile of AARP cards next to my work area to snip up if I am feeling blue. 😉 )  Now that I have turned 55, I am getting a flood of invitations from bloodsuckers financial services marketers asking me to come to their free information session.

The three recent ones were:

  • A conference asking “DO YOU HAVE THE COURAGE TO RETIRE RICH?”  The answer is real estate speculation.  Ah, if it were only that easy.  Yes, I know that a tiny amount of flipping has been profitable of late.  The only thing more profitable than flipping and speculating is getting others to pay for your advice and services so that they can go out and lose money speculating and flipping.  As I said to the guy pitching at a “Rich Dad” seminar, “If there’s that much money lying around in mispriced properties, why not go start a REIT and vacuum up all that money yourself?”  His answer, “What’s a REIT?”   I said, “If you don’t know that, you don’t know real estate.”
  • The pitch: “In a moment of decision the best thing you can do is the right thing.  The worst thing you can do is nothing. — Theodore Roosevelt”  A little more classy, but wrong.  Often the right thing to do is nothing, particularly if you don’t know the right answer… better to wait, study and learn.  Don’t be biased toward action, particularly in investing.  Only a salesman wants you biased toward action, and that is for his good, not yours.  In this case, the course offered doesn’t look so bad, and the price is cheap — but they don’t care about the cost of the course aside from the fact that it psychologically commits you to the course, and that you will more likely come, and be more likely to purchase further services from them.  The biggest thing you would learn from the course is that you don’t know much… so buy their services.
  • The next one advertises a dinner.  This one tries to scare you into coming — there’s a crisis around the corner. Boo!  But we can keep your retirement safe.  Inflation is coming.  Boo!  But we will get you an income that keeps up with inflation.  Then, to aid credibility, it mentions that their firm has been mentioned in a variety of local newspapers that no one pays for that cumulatively have less reach than this blog.

When I recently went and spoke to the Baltimore chapter of the American Association of Individual Investors, I told them, “I’m not going to market anything to you,” and I didn’t.  I response to a question, I did show them a page from my blog.  Yes, the one that lists all my worst mistakes.  And, I took a fairly extensive Q&A where if I didn’t know an answer, or there wasn’t a good answer, I said so.

My credibility is worth more to me than a little business.  Beyond that, I never want a client to think that I goaded him into working with me, or, that I went overboard to retain him if he wants to leave.  After all, I say to them, “It’s Their Money.”

As I often say:

“Don’t buy what someone else wants to sell you.  Buy what you have researched that you want to buy.”

I would say if someone sends you a slick ad on financial services, ignore them.  Always.  Do your own research.  The best firms don’t advertise, because they don’t have to.  Talk to intelligent friends, and see what they do.  Ask investment managers if they died and their firm went out of business, who would they want their spouse to use?

Don’t respond to retirement, investment management and financial planning ads.  Develop your own proposal, and put it out for bid.  Let multiple providers tell you what they will do for you.  Have smart friends help you review the submissions. Then choose the best one.

Keep the hucksters and charlatans at bay.  Ignore them.

Before I start this evening, I want to add one follow-up to last night’s piece on Berkshire Hathaway.  My summary was that it wasn’t a great year, and the profit margins are likely to shrink in insurance, because BRK is being conservative there.  So why do I still own it for my clients and me?

BRK is trading maybe 8% over the level at which it would begin buying back stock.  Even in a pessimistic year, I expect BRK’s book value to rise to the level that triggers the buyback.  Thus, I think the floor for the stock is pretty close below me, and there is a decent possibility that Buffett could do some things with the cash that are even better than buybacks, especially if the market falls into bear territory.

It is positioned well for most market environments, even one where insurance gets hit hard.  BRK is “the last man standing” in any insurance crisis — they have the ability to prosper when other companies will have their capital impaired, and can’t write as much business as they want.

That’s why I own it.

Long BRK/B for my clients and me

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Onto tonight’s topic.  This is partially spurred by an article at Bloomberg.com entitled Angry Americans: How the 2008 Crash Fueled a Political Rebellion.  There was one graph that crystallized the article.  Here it is:

Incomes have not improved for the bottom 80% of Americans over the last decade.  Before I go on, recognize that the income distribution is not static.  The same people are not in each decile today, as were in 2006.  Examples:

  • Highly skilled students in a field that is in demand graduate and get jobs that pay well.
  • Highly skilled immigrants in a field that is in demand come to the US and get jobs that pay well.
  • Less skilled people who relied on the private debt culture to keep getting larger no longer have jobs that pay well in finance, construction, real estate, etc.
  • Workers and businessman who expected the commodities and crude oil boom to go on forever have seen their prospects diminish.
  • Some people have retired and their income has fallen as a result.
  • Layoffs have come in some industries because many people did not realize that they were lower skilled workers, and as such the work that they did could be automated or transferred to other countries.
  • Manufacturing continues to get more efficient, and we need fewer jobs in manufacturing to produce the same output (or more).  This is true globally; manufacturing jobs are being reduced globally.
  • Technology firms that apply the advantages of the internet gain value, while legacy firms lose value.  Whole classes of goods go away because they are replaced, and in other cases, some firms find that they can’t price their products to make a decent profit, while other firms can.
  • Some effects are demographic, like mothers ceasing work to raise children, or industries with a lot of older workers becoming uncompetitive because their pension plans are too expensive to fund.
  • Divorce usually ruins the prospects of the wife, if not the husband.
  • Throw in death, disability, substance abuse, and serious diseases.
  • And more…

Thus there is a lot of reason to look at the graph and not say, “The rich are getting richer,” but, “Those who are getting rich today are doing so faster than those who were getting rich back in 2006.”

My life is even an example of that… I make less than 30% of what I was making in 2006.  On an income basis, I’ve gone from the top of the graph to the middle.  I’m not upset, because I’m debt free, and manage my finances well.  I’m grateful to have my own little firm, and every client that I have.

Resentment

That said, many feel that the comfortable life that was theirs has been denied to them by forces beyond their control. They think that shadowy elites want to turn previously well-off people into modern serfs.

It’s a tempting thought, because most of us don’t like to blame ourselves.  Myself included, we all make mistakes.  Here is a sampling:

  • Did we make a bad decision in the industry in which we chose to work?  The particular firm?
  • Did we choose a bad field of study in college?  Rack up too much student loan debt?
  • Did we borrow too much money at the wrong time?  (Remember, debt is always a risk.  If you don’t know that, you shouldn’t borrow money.)
  • Did you make bad decisions regarding your assets, and get too greedy or fearful at the wrong times?
  • Did you spend too much during your good years, and not save enough for the future?
  • Did you not buy the insurance that would have protected you from the disaster that hit you?
  • Throw in relationship errors, etc.

The truth is, changes in technology, and to a lesser extent demography, affect the entities that we work in, and affect our personal economics as a result.  There are some politicians blaming immigrants for our problems, and that’s not a major source of our difficulties.  Most people don’t want to do the work that unskilled immigrants do, and skilled immigrants get hired when there aren’t enough people seeking those positions.

There is a need for retraining, but even that has its difficulties, as technology is changing rapidly enough that more areas may face job reductions.  Again, this is a global thing.  Those that think that making trade less free will help matters are wrong.  It’s not trade; it’s technology.

Some think that matters can be fixed by changing government taxes and spending.  That would only help limitedly, if at all.  Businesses and people can move to other countries.  In an era of the internet, many more things can move than ever did previously.

Now, if the developed  countries collaborated to unify tax policies, some of that would end.  But cheating under such a regime is too tempting, just as Indiana and Wisconsin try to attract businesses to move out of Illinois.  The relatively healthy governmental entities have advantages that allow them to prosper at the expense of the sick ones.

You’re Going to be Disappointed

Politicians live to promise.  I can tell you right now that not one of the surviving candidates for President has a realistic proposal that could be voted up by the next Congress or the buyers in the US Treasury market.  It’s all airy-fairy… just as most politicians have been since we stopped running balanced budgets.

I would encourage you therefore to look at your own situation and resources soberly, and assume that the next government will do nothing better for you than the current one.  All of the main drivers of what could improve matters for the middle class are outside the power of any individual government, so plan your own situation accordingly and adjust your economic expectations down.  After all, there is no place in the world that can promise its people prosperity.  Why should the USA be any different in this matter?

Photo Credit: Alex Proimos || A bunch of con men attempt to bilk an unsuspecting lady

Photo Credit: Alex Proimos || A bunch of con men attempt to bilk an unsuspecting lady

There are many ways to try to cheat people in the investment world.  You can promise them:

  • No risk (an appeal to fear)
  • High returns (greed)
  • Secret knowledge (can appeal to either or both fear and greed)
  • An easy life, free from the worries common to man.
  • And more…

For virtually every human weakness or sin, there is a road to cheating men.  This is why it is difficult to cheat a truly honest man, because an honest man is:

  • Industrious — he knows most ways to improve his lot in life involve considerable work, whether physical or mental.
  • Skeptical — he knows not everyone is honest, and there are many that pursue ways that harm themselves or others.
  • Self-controlled — he doesn’t need to become wealthy, but if it comes bit-by-bit, he can handle it.
  • Unafraid — he doesn’t scare easily, and there are many purported scares out there.  There are always people trying to make money off of apocalyptic scenarios.  (Believe me, in a truly apocalyptic scenario, where the government breaks down, or you lose a war on your home soil — no one wins.  And, there is no way to prepare.)
  • Studious, and has wise friends — he doesn’t quickly buy novel reasoning, or unfamiliar concepts without testing them, and running them past his personal “brain trust.”
  • Patient — he can’t be rushed into something, and he can walk away.
  • Virtuous — when he does commit, he holds to it, and makes good on what he promised.  He expects the same of others, and does not deal with those of bad reputation.

There’s more, and I don’t hold myself out to be perfect here, but that is a part of what I aim for.  If you are like this, you will be very difficult to cheat.

The Dishonest Pitch

The Dishonest Pitch

With that wind-up, here is the pitch: I ran across a video while doing my usual work, when I saw a picture of Buffett.  Now, everyone wants to invoke Buffett because he is a genuinely bright guy on all affairs affecting money and wealth.  Many who do so twist what Buffett has done for their own ends.  You can see the graphic used to the left.

So this guy posits that Buffett got rich off of “Guaranteed Income Certificates.”  You can listen to the whole 39-minute video, and never learn what a Guaranteed Income Certificate is.  This is a tactic to make you think that the video-maker has hidden knowledge.  He does not lie, per se, but dances around what it is and how Buffett has used them.  I figured out what he was talking about in a about two minutes, but only because the language was so discursive, with many rabbit-trails.

So what is the vaunted Guaranteed Income Certificate?

Preferred stock.

Preferred stock?

Yes, preferred stock, that hoary creation that gets wiped out when most firms go into bankruptcy.  There are few cases where the preferred stock is worth anything in a crisis.  It is far from guaranteed.  It has all of the disadvantages of a bond, with none of the countervailing advantages of common stock, which can provide strong returns.

Geek note: why is preferred stock called preferred?  Three, maybe four reasons:

  1. Its dividend payment can only be unpaid if the common dividend is unpaid first.  It has a dividend payment priority.
  2. If the dividend is eliminated, preferred stockholders as a group typically gain representation on the Board of Directors.
  3. In bankruptcy, they receive preference over the common shareholders when the company is recapitalized or liquidated.  That said, in bad scenarios, their claim is the second lowest of all claims — behind the secured creditors, the government, lawyers, general creditors, bank debt, and unsecured bonds.  Believe me, that preference on common shareholders is not a big protection.
  4. The preferred dividend is usually, but not always higher than the common dividend.

All preferred stock is is a promise to pay dividends if the company can do so without going broke, and ahead of the common shareholders.  Like all risky investments, you can lose it all.  Average recovery in bankruptcy for preferred stock is around 5 cents on the dollar, versus 40 cents for most bonds,and 80 cents on bank debt.

Now, Buffett has done some clever things with preferred stock that is convertible into common stock, or alongside common stock or warrants.  Occasionally he has bought some regular preferred stock as an income vehicle for his insurance companies.  But Buffett almost never plays merely for income, he wants the gains that come from stocks.

Now, I didn’t listen to the whole video — after five minutes of the beautiful voice dancing around the issue, I stopped it, right clicked, downloaded it, and went to the end.  As is common with these sorts of videos, it makes it sound easy, as if infinite income could be yours if you just buy this service.  They sell you on what your dream life will be like: you will have more than enough money for vacations, you’ll never have to work again, you can spend as much time visiting the faraway grandchildren…

The guy who put the video together, and sells his service, was big on hiding things behind new names that he concocted:

  • Preferred stock becomes Guaranteed Income Certificates
  • Venture Capital / Private Equity becomes Doriot Trusts
  • Master Limited Partnerships become Secret Oil income Streams
  • Royalty Trusts are treated as a novel investment, rather than the backwater that it is.

The presentation is also expert in lying with true statistics, making the ordinary sound extraordinary.  It also has the “but wait, there’s more!” pitch, where they throw in a bunch of old reports to make the deal seem sweeter.  The cost of the newsletter if saved for the very end — beware of those that won’t tell you the cost up front.  Good deals will always show you the price early.  Charlatans hide the price.

There are no secrets.  There is no easy road to an easy, wealthy life.  I want to end this post  the way I ended a similar post called “On the 770 Account,” which was a code name for permanent life insurance. [Sigh.  Oddly, that post still gets a lot of hits, probably because no one has stepped forward to call that one out.]

Final Note

THERE ARE NO SECRETS IN MONEY MANAGEMENT!  THERE ARE NO SECRETS IN MONEY MANAGEMENT!  THERE ARE NO SECRETS IN MONEY MANAGEMENT!

There is no secret club.  There are no secret formulas. There are a lot of clever lawyers, accountants, and actuaries that the wealthy employ, but for average people, the high fixed costs won’t make it work.

If you want to be wealthy, you have to run your own firm, run it well, providing value to many.  Don’t listen to those who say they have an easy way to wealth.  They are lying, and are looking to make money off of you.  Those who give you free advice are using you in some way.  (Wait, what does that make me to be? Sigh.)

Signing off, your servant David, who does this for his own reasons…

 

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This book is not what I expected; it’s still very good. Let me explain, and it will give you a better flavor of the book.

The author, Jason Zweig, is one of the top columnists writing about the markets for The Wall Street Journal.  He is very knowledgeable, properly cautious, and wise.  The title of the book Ambrose Bierce’s book that is commonly called The Devil’s Dictionary.

There are three differences in style between Zweig and Bierce:

  • Bierce is more cynical and satiric.
  • Bierce is usually shorter in his definitions, but occasionally threw in whole poems.
  • Zweig spends more time explaining the history of concepts and practices, and how words evolved to mean what they do today in financial matters.

If you read this book, will you learn a lot about the markets?  Yes.  Will it be fun?  Also yes.  Is it enough to read this and be well-educated?  No, and truly, you need some knowledge of the markets to appreciate the book.  It’s not a book for novices, but someone of intermediate or higher levels of knowledge will get some chuckles out of it, and will nod as he agrees along with the author that the markets are a treacherous place disguised as an easy place to make money.

As one person once said, “Whoever called them securities had a wicked sense of humor.”  Enjoy the book; it doesn’t take long to read, and it can be put down and picked up with no loss of continuity.

Quibbles

None

Summary / Who Would Benefit from this Book

If you have some knowledge of the markets, and you want to have a good time seeing the wholesome image of the markets skewered, you will enjoy this book.  if you want to buy it, you can buy it here: The Devil’s Financial Dictionary.

Full disclosure: The author sent a free copy to me via his publisher.

If you enter Amazon through my site, and you buy anything, including books, I get a small commission. This is my main source of blog revenue. I prefer this to a “tip jar” because I want you to get something you want, rather than merely giving me a tip. Book reviews take time, particularly with the reading, which most book reviewers don’t do in full, and I typically do. (When I don’t, I mention that I scanned the book. Also, I never use the data that the PR flacks send out.)

Most people buying at Amazon do not enter via a referring website. Thus Amazon builds an extra 1-3% into the prices to all buyers to compensate for the commissions given to the minority that come through referring sites. Whether you buy at Amazon directly or enter via my site, your prices don’t change.

Photo Credit: Grant || Lotsa zinc there

Photo Credit: Grant || Lotsa zinc there

I haven’t written about promoted penny stocks in a long time.  Tonight I am not writing about promoted stocks, only penny stocks as promoted by a newsletter writer.  He profits from the newsletter.  Ostensibly, he does not front-run his readers.

Before we go on, let me run the promoted stocks scoreboard:

TickerDate of ArticlePrice @ ArticlePrice @ 12/1/15DeclineAnnualizedDead?
GTXO5/27/20082.450.011-99.6%-51.5% 
BONZ10/22/20090.350.000-99.9%-68.5% 
BONU10/22/20090.890.000-100.0%-100.0% 
UTOG3/30/20111.550.000-100.0%-100.0%Dead
OBJE4/29/2011116.000.000-100.0%-100.0%Dead
LSTG10/5/20111.120.004-99.6%-74.2% 
AERN10/5/20110.07700.0001-99.9%-79.8% 
IRYS3/15/20120.2610.000-100.0%-100.0%Dead
RCGP3/22/20121.470.180-87.8%-43.4% 
STVF3/28/20123.240.070-97.8%-64.7% 
CRCL5/1/20122.220.001-99.9%-87.2% 
ORYN5/30/20120.930.001-99.9%-85.4% 
BRFH5/30/20121.161.000-13.8%-4.1% 
LUXR6/12/20121.590.002-99.9%-86.3% 
IMSC7/9/20121.50.495-67.0%-27.9% 
DIDG7/18/20120.650.000-100.0%-100.0% 
GRPH11/30/20120.87150.013-98.5%-75.4% 
IMNG12/4/20120.760.012-98.4%-75.0% 
ECAU1/24/20131.420.000-100.0%-94.9% 
DPHS6/3/20130.590.005-99.2%-85.5% 
POLR6/10/20135.750.005-99.9%-94.2% 
NORX6/11/20130.910.000-100.0%-97.5% 
ARTH7/11/20131.240.245-80.2%-49.3% 
NAMG7/25/20130.850.000-100.0%-100.0% 
MDDD12/9/20130.790.003-99.7%-94.5% 
TGRO12/30/20131.20.012-99.0%-90.9% 
VEND2/4/20144.340.200-95.4%-81.6% 
HTPG3/18/20140.720.003-99.6%-95.9% 
WSTI6/27/20141.350.000-100.0%-99.9% 
APPG8/1/20141.520.000-100.0%-99.8% 
CDNL1/20/20150.350.035-90.0%-93.1% 
12/1/2015Median-99.9%-87.2%

 

If you want to lose money, it is hard to do it more consistently than this.  No winners out of 31, and only one company looks legit at all — Barfresh.

But what of the newsletter writer?  He seems to have a couple of stylized facts that are misapplied.

  1. Every day, around 45 stocks double or more in price.
  2. Some wealthy investors have bought stocks like these.
  3. Wall Street firms own these stocks but never recommend them to ordinary individuals
  4. The media censors price information about these stocks so you never hear about them

Every day, around 45 stocks double or more in price.

That may be true, but most of those that do double or more in price don’t do so for fundamental reasons; they are often manipulated.  Second, the stocks that do double in price can’t be found in advance — i.e., picking the day that the price will explode.  Third, the prices more often fall hard for these tiny stocks.  Of the 30 stocks mentioned above that were not dead at the time of the last article, 10 fell more than 90% over the 10+ month period.  13 fell less than 90%, 1 broke even, and 7 rose in price.  The median stock fell 61%.  This was during a bull market.

Now you might say, “Wait, these are promoted stocks, of course they fell.”  Only the last one was being actively promoted, so that’s not the answer.

My fourth point is for the few that rise a lot, you can’t invest in them.  The stocks that double or more in a day tend to be the smallest of the stocks.  Two of the 30 stocks listed in the scoreboard rose 900% and 7100% in the 10+ month period since my last article.  How much could you have invested in those stocks?  You could have bought both companies for a little more than $10,000 each.  Anyone waving even a couple hundred bucks could make either stock fly.

So, no, these stocks aren’t a road to riches.  Now the ad has stories as to how much money people made at some point buying the penny stocks.  The odds of stringing several of these successful purchases in succession, parlaying the money into bigger and bigger stocks that double is remote at best, and your odds of losing a lot of it is high.

This idea is a less classy version of the idea promoted in the book 100 to 1 in the Stock Market.  If it is difficult to find the 100-baggers 30 years in advance, it is more difficult to find a stock that is going to double or more tomorrow, much less a bunch of them in succession.  You may as well go to Vegas and bet it all on Double Zero on the roulette wheel four times in a row.  The odds are about that bad, as trying to get rich buying penny stocks.

The ad also lists three stock that at some point fit his paradigm — MeetMe [MEET], PlasmaTech Biopharmaceuticals, Inc. (PTBI) which is now called Abeona Therapeutics Inc. (ABEO), and Organovo (ONVO).  All of these are money-losing companies (MeetMe may be breaking into profitability now) that have survived by selling shares to raise cash.  The stocks have generally been poor.  Have they had volatile days where the price doubled?  At some point, probably, but who could have picked the date in advance, and found liquidity to do a quick in-and-out trade?

The author lists five future situations as a “come on” to get people to subscribe.  I find them dubious.

As for wealthy investors, he mentions two: Icahn pulling of a short squeeze on Voltari (difficult to generalize from), and Soros with PlasmaTech Biopharmaceuticals, Inc.  It should be noted that Soros has a big portfolio with many stocks, and that position was far less than 1% of his assets.  In general, the wealthy do not buy penny stocks.

As for brokers and the media not mentioning penny stocks, that is being responsible.  The brokers could get in hot water for recommending or buying penny stocks even under a weak suitability standard.  The media also does not want to be blamed for inciting destructive speculation.  Retail investors lose enough money through uninformed trading, why encourage them to do it where fundamentals are typically quite poor.

I’ve written two other pieces on less liquid stocks to try to explain the market better: On Penny Stocks and Good Over-the-Counter “Pink” Stocks.  It’s not as if there isn’t value in some of the stocks that “fly under the radar.”  That said, you have to be extra careful.

Near the end of the ad, the writer describes how he is being extra careful also.  Many of his rules make a lot of sense.  That said, following those rules will get you boring companies that won’t double or more in a day.  And that’s not a bad thing.  Most significant money is made slowly — it doesn’t come in a year, much less in a day.

That said, I recommend against the newsletter because of the way that it tries to attract people.  The rhetoric is over the top, and appeals to those who sense conspiracies keeping them from riches, so join my club where I hand out my secret knowledge so you can benefit.

In summary, as a first approximation, don’t invest in penny stocks.  The odds are against you.  Fools rush in where angels fear to tread.  Don’t let greed get the better of you — after all, what is being illustrated is an illusion that  retail investors can’t generally achieve.

Tonight’s topic comes from a note sent to me by a friend. Here it is:

David, I have heard you say that you have entered into partnerships in the past.  What are your rules for partnerships, who will you enter with?  I have a neighbor who is interested in starting a business, the start up cash is small $5000.  I think there might be good opportunity, but I am concerned for good reason about my time availability, as well as Not being “unequally yoked”.  What business relations do Paul’s words govern.  do you have different rules for minority, majority, or controlling shares?

I appreciate your thoughts.

I have two “partnership” investments.  One is very successful and is an S Corporation.  The other is a limited partnership, and I wonder whether it will ever amount to anything.  Both were done with friends.

There are a few things that you have to think about with partnerships:

  1. Is your liability limited to the amount of money you invested, or could you be on the hook for more if there are losses/lawsuits?
  2. Are there likely to be future periods where capital might need to be raised?  Under what conditions will that be done?
  3. What non-capital obligations are you taking on as a result of this?  Labor, counsel, facilities, tools, etc?
  4. How will profits and losses be allocated?  Voting interests? How will it be managed? When will the partnership end?  How can terms be modified? How can partnership interests be transferred, if at all?  Etc.
  5. Do you like the people that you will be partners with?  You may be partners for a long time.
  6. Be ready for the additional tax complexity of filling out schedule C, or a K-1, or some other tax form.

Go into a partnership with your eyes wide open, and check everything.  If your partnership interests have limited liability, and the economics are structured similar to that of a corporation, then things are clearer, and you don’t have to worry as much.

Take note of any obligations that you might have that don’t fit into the “passive provider of limited capital with proportionate ownership” framework.  Those obligations are the ones that need greater scrutiny.  Include in that how those working on the partnership get compensated for their labor.  Parties to the partnership may have multiple roles, and there can be conflicts of interest — imagine a partnership where one partner works in the business and receives a large salary, thus depressing profits for the non-working partners.  How does that conflict of interest get settled?  (Note that the same problems that exist in being an outside, passive, minority public stock investor reappear here.)

Also be aware of how ownership interests can change, and whether you may be forced to add more capital to maintain your proportionate interest in the business.

Try to have a good sense of the skill of the partner or employee managing the business.  That makes all the difference in whether a business succeeds.

Most of what I say here assumes that you will not be a controlling majority partner, and that you will have limited influence over the business.  If you do have control, the problems of getting cheated by someone else go away, but get replaced with the problem of making sure the business is run adequately for the interests of all partners.  Your ethical obligations also expand.

You mention the “unequally yoked” passage from Second Corinthians 6, verses 14 and following.  In one sense, that doesn’t have much more application here than it does in all investing if one is a Christian.  Don’t involve yourself in businesses that of necessity involve you in things that you would not do yourself as a Christian.  Don’t invest in enterprises where it is obvious that management does not care about ethics — you can see it in their behavior.  This will be a little clearer and close to home in a partnership with a friend — you will know a lot more about what is going on.

With a non-limited partnership, there is an additional way the “unequally yoked” passage applies.  You expose your entire economic well-being to risk when you are a general partner.  It is like a marriage — it is very difficult to negotiate your way out of the unlimited guarantee that you make there.  It is like being a co-signer, which the Bible says to avoid.

Of itself, that doesn’t expose you to the unequal yoke, but when you are in an economic agreement that binding, if your partner takes the business in an ethical direction you find dubious, you will be in a weak position to do something about this.  There is where the unequal yoke appears amid unlimited liability.

That’s all for now.  There’s a lot more to consider here, but this is meant to be an introduction to the issues involved in partnerships.  Hope it works well for you.