Independence versus Hedge Funds

My last blog covered the advantage of independent advisors over those associated with the big-name firms. With the recent news on hedge funds and the sub-prime mess, it is a good time to explain the advantage of independent advisors over hedge funds.

Hedge funds pool client funds. For that reason, clients rely on the hedge funds to provide them information on what their investments are worth. This information is provided either monthly or quarterly, and you trust the fund for its accuracy. There are many cases where portfolio values were fudged, making clients believe their portfolio values were higher than reality. This deception can only go so long.

In my small town of Incline Village a fund gathered millions and failed to report to investors its portfolio losses. Eventually the managers and sales team fled town, and investors lost their money.

Last Thursday the FBI arrested Bear Stearns hedge fund managers for fraud. In an email one manager wrote, “Believe it or not … I’ve been able to convince people to add more money …”

With independent advisors, the brokerage account is yours. You simply give the advisor authority to place trades on the account. I trade through Fidelity Investments so clients can monitor performance daily at Fidelity.com. There is no pooling of assets.

Independence Versus the Big Firms

I have several friends that are brokers with large firms. Although we are all investment advisors, my friends work very differently. While they are with large firms, I’m a registered investment advisor (RIA) with my own firm. From my perspective, clients are far better off with independent RIAs like myself.

There is a commercial from a major brokerage outfit that says, “Our clients always come first.” Unfortunately that isn’t the case. Large public companies are responsible to their shareholders. As a result, decisions are made to maximize profits to keep shareholders happy. Revenue generation is the top priority so there can be a conflict of interest between placing client money in the best area versus placing client money into areas that generate the most income for the broker and the firm.

For independent fee-only RIAs, there is no conflict between serving the shareholders or the client. There isn’t the lure of receiving extra compensation when placing client funds in certain investment vehicles. We receive no commission from trading and there are no production quotas. We are only paid based on the value of client portfolios. It is in our interest to do what is best for the client.