Remember the Matthew McConaughy scene in Wolf of Wall Street? The one where the Lincoln man is doing that weird pound-the-sternum chant and blasting coke and martinis over lunch while he gives Leo de Caprio his famous "Fuck the client!" speech?
That's the scene where Leo's whacked-out boss talks about the three keys to success on Wall Street: jerking off, cocaine and "revolutions," i.e. keeping the client on the investment Ferris wheel indefinitely, while you burn him for fees. On and on it goes, the park is open, 24/7, 365 days a year…
"He thinks he's getting rich, which he is, on paper," McConaughy says. "But you and I are making cold hard cash – on commission, motherfucker!"
A graphic demonstration of that scene, and the financial-services industry ethos it describes, just hit the news in the form of a wild new report on the wide-scale scamming of ordinary investors. The "Ferris wheel" of conflicted payments, unnecessary fees and other shady practices apparently beats retirees for up to $17 billion a year, according to an internal White House memorandum.
Bloomberg's Dave Michaels and Margaret Collins did an excellent report on the topic. They wrote that back on January 13th, Jason Furman, the Chairman of President Obama's Council of Economic Advisors, issued a scathing memo about shady broker practices and how they impact ordinary savers, especially working people who use brokers to manage their retirement funds.
Specifically, the White House investigation concluded that this particular corner of the financial services is teeming with loophole-permitted conflicts of interest. Brokers can legally and in most cases undetectably grind their clients for fees and/or put them into plans that offer fat commissions for the brokers themselves, while offering lower returns for the client.
The particular practice of making a client pay endlessly for transaction fees within the fund – known as churning – is described as a serious problem, one in which brokers "repeatedly buy and sell assets when additional transactions aren't necessary," while exhibiting "poor market timing."
Another practice the study cites involves recommending that clients roll over their 401(k)s into IRAs. Many firms do this, the study says, "without any knowledge of a client's financial situation, and fail to mention the likely possibility that the fees they would face if their assets remained in the employer plan may be lower."
There are lots of people in this country who have their antennae all the way up when they buy a used car, but no clue at all when it comes to turning their retirement money over to be managed.
For instance, it might surprise a lot of Americans to know that most brokers handling retirement funds aren't required by law to act in the best interests of their clients.
Instead, the standard is a humorously amorphous thing called "suitability," which basically means the broker must only have a "reasonable basis for believing that recommendation is suitable for you."
Under that absurd standard, McConaughy-style brokers can justify just about any kind of "investment strategy," including one that explicitly makes themselves more money through fees and commissions while making less for you, the client.
The Furman memo, first obtained by Bloomberg (I only just read it today), offers some startling numbers. It concludes that investors who rely upon conflicted brokers stand to lose enormous percentages of their savings. According to the internal report:
An investor receiving conflicted advice who expects to retire in 30 years loses at least 5 to 10 percent of his or her potential retirement savings due to conflicts, or approximately 1 to 3 years worth of withdrawals during retirement.
The report further adds that the estimated cost to investors is somewhere between $8 billion and $17 billion annually. To put that in DeflateGate perspective, that means that financial advisors annually siphon about as much or more from retirees through bogus fees and other tricks as the entire NFL makes in revenues every year.
The Obama administration is proposing to fix the problem by changing the rules and imposing a fiduciary duty standard on brokers, forcing them to act in their clients' best interests. If this Labor Department proposal ever gets past the 50 yard line, expect the financial services lobby to carpet-bomb Washington with studies showing that apart from nuclear winter or inviting al-Qaeda to occupy the White House, nothing could be worse for America than forcing brokers to act in the best interests of their clients.
As the Bloomberg reporters put it:
The Securities Industry and Financial Markets Association, Wall Street's largest trade group, declined to comment specifically about the memo. The group has previously said that opposing the Labor Department plan is one of its top priorities in Washington this year.
"Any signal that the DOL proposal is moving forward would cause us concern," Andy Blocker, a Sifma lobbyist, said in a statement.
None of this is terribly surprising. It's just that if the White House is right, the numbers are somewhat higher than might have been expected. $17 billion a year is a fairly sizable amount of money even by financial services scamming standards. Three years worth of retirement payments is lot of money even to Americans, who by now are used to being ripped off.
Whether the solution is a new law or simply raising awareness, beware of the Ferris wheel…