August 10, 2010

The Investment View from Prescott, Arizona

8 Ways to Tell if Your Adviser is a Fraud

Unfortunately, the public outcry over the Bernie Madoff scandal – and the regulatory response to that outcry – has done little to stem the tide of investment fraud. From elaborate Ponzi schemes aimed at celebrity investors, to simple investment scams targeting the elderly, the desperate or the naive, scam artists continue to separate clients from their money.

In their new book, “Financial Serial Killers,” attorney Tom Ajamie and InvestmentNews News Editor Bruce Kelly expose the world of Wall Street money hustlers, swindlers and con men. While the fraudsters have changed over the years, the authors note that their methods have stayed basically the same.

Here are eight ways that Ajamie and Kelly say you can tell if your financial adviser may be a fraud:

8.  Snooty Firm Name.  If Standish, Rockefeller & McMoney, Inc., sounds a bit over the top, perhaps your adviser is trying to look like something they are not.  

7. Lots of Bling.  Would you waste your money on Ferraris, mahogany paneling and diamond rings?  Maybe they would.

6.  No public information available.  If they are not registered at www.Finra.org or www.sec.gov, or claim they offer only private investments, exempt from registration, you will have no idea what their business is really doing.5.  The strategy is a big secret or said to be too complex for you to understand.  If you don’t understand what is being done with your money, that is a recipe for losing sleep – or money.

4.  Similar results year after year, even during years of market upheaval.  That was Bernie Madoff’s M.O.  Even the best advisers have bad years and lose money every once in a while.

3.    Guaranteed returns – especially high ones.  Especially when accompanied with “this is just as good as a AAA rating”.

2.    Suspicious timing.  A broker pursues your business at the very moment you are dealing with a dramatic life change, such as a death of a loved one.  Unscrupulous advisers prey on investors when they are vulnerable.

1.    The Hard Sell.   High pressure tactics, such as having to buy right now, are a real danger sign.  A few years back I had a client report a variation on this with the broker saying:  “Oh, I am so sorry.  That investment is so good we sold it out already and it is getting underway right now.  But I have spoken to the President of the investment company, and if you are prepared to invest today, he’ll let you have part of the investment that was reserved for him, because I pleaded for you.”

Uh-huh.  And if you believe that, I have a bridge in New York that I want to sell you.

Exciting Times

There is a lot happening in the Hepburn household.  Cathleen has been asked to teach two new courses at Yavapai College, Diction for Singers (in four languages, no less) and Music Appreciation, in addition to having a record number of voice students and a piano class.  She is going to be a busy lady for a while.

My son, Matt, is heading off to the Musician’s Institute in Hollywood next month and is busy making plans and getting ready.

Matt is a highly skilled drummer.  In high school he won State with the jazz and marching bands, and the drum line he captained in the marching band also won State.  He was selected in state-wide auditions to participate in the prestigious Sedona Jazz on the Rocks youth band as a Sophomore, and began playing with the Yavapai College big band as a high school junior.  This January, a rock band he was in did a 17 show tour of the West coast, and he came back with the nickname “Matt Skills”.

Musician’s Institute is right in the mainstream of the music industry, and we are hoping he can make connections there that will contribute to a career in music.

Living and going to school in Hollywood ought to be an education in itself.

Riddle:

Q: You do not want to have me,
But when you have me,
You do not want to lose me.

What am I?

A: A lawsuit

Important Disclosures

When you became a client, we provided you with a copy of our SEC (Securities and Exchange Commission) Form ADV, Part II and accompanying Schedule F, which is our federally required disclosure of how we conduct our business at Hepburn Capital.

Occasionally we make updates to the Form ADV to keep it conforming to changes in the business.  It has been several years since we have had material changes in the business, but the effects of ongoing minor changes could become significant for some clients.  For this reason, we encourage you to request a copy of our most current Form ADV for your records whenever you might want one.

If you would like the latest version of our Form ADV, dated February 21, 2010, please call the office at (928) 778-4000 and we will be happy to mail or email one to you.

Next year you will see a major revision to Form ADV as the SEC has mandated that we change to a more narrative brochure by 2011.  For now, we still use the bureaucratically stylized version we are required to maintain.

How’s The Market Doing?

The stock market is at the top of the sideways “trading range” that I have described in numerous newsletters over the past 9 months. 

I could make a case that the market might go up from here.  Some segments of the market already appear to be getting healthier.  

However, I could also make a case that the market could go down from here.  Considering that at the moment, the larger trend is still down, I think this possibility must be given respect.  

Until the market moves convincingly above the top of the range it has been bound in for so long, I won’t be ready to call this an uptrend.  We may be close to the point where we will know, but right now no one really knows what is going to happen.

As Niels Bohr, Nobel laureate in Physics once said:  “Prediction is very difficult, especially if it’s about the future.”  

Or was that Yogi Berra?

What We Were Saying a Year Ago

From my August 11, 2009 newsletter:

“The cheerleaders in the financial news are making a big deal of the S&P 500** stock index moving through 1,000 and the Nasdaq** index moving through 2,000.  These levels are of no significance.  In fact at 2,000, the Nasdaq** still needs to gain 150% just to get back to where it was 9 years ago.  Whenever a buy and hold oriented financial adviser tells you “be patient, the market will bounce back”, remind them of this fact.”

Back to August 6, 2010:  With the gains made over the past year moving the Nasdaq Composite Index** up to 2,288, it only needs to make a further 124% gain to get back to where it was a decade ago.   I wonder if buy and hold advisors feel better now?

Sure, the market is bouncing back alright, but it would be nice if it didn’t take a decade to only get half way back.

Big declines such as the Nasdaq** took beginning in 2000 all begin the same, as small declines.  This is why I believe so strongly that whenever a decline is underway it is wise to sell and get out of the way – in case the current decline turns out to be the next big one.

What’s Going On In Your Portfolio?

Making Money at Different Times

They say that the best trades are the most difficult to make because they

fly in the face of public opinion.  In fact, I make most of the money in our growth accounts at different times than the market as a whole might suggest.  I am often a contrarian and go against the grain.

I have one set of trades underway right now in our Careful Growth* and Balanced* portfolios that fit in this category.  

As I have mentioned, the market has risen over the past month to be at a point where it has reversed direction many times over the past 10 months.  If the market reverses downward again, I want my clients to profit from it.

On July 29th, I bought what appears on the surface to be very aggressive investments for our growth portfolios.  These are “inverse” or “short” funds that are designed to go up $2 for every $1 the market goes down.  Of course, if the market goes up, one can lose money “shorting” the market.  With a 2 to 1 leverage, money can be lost very quickly, too, so these are not investments for the faint of heart.

The key to this trade is that we are at the reversal point mentioned earlier and the bottom of the trading range is 6-9% below current levels.  If the stock market indexes reverse again, the likely amount of the decline will be between 6-9% and potentially more if it keeps going.

A 6-9% market decline would translate to a 12-18% gain for our inverse investments with their 2 to 1 leverage.

What makes a risky looking trade not very risky is that if it does not work, I will know it very quickly.  If the market goes up only about 2-3% from where I bought these investments, we will get out with about a 4-6% loss in that investment.

When I get a chance for a 12-18% gain by risking a 4-6% loss, the potential reward is 3 times the potential risk.  That is a great risk/reward relationship and makes this a prudent investment despite the racy investment vehicles being used.

Only time will tell how this particular set of trades will work out, but now you can see the types of decisions I make every day on your behalf.

Our growth strategies* have 40% invested in these inverse trades, about 40% in high yield stocks and bonds paying in the 8% range and about 20% cash.

Our Spotlight Strategy

The Balanced Strategy is a roughly equal mix of HCM’s growth and income portfolios.  It can pursue growth while taking less risk, compared
to a pure growth portfolio.

Just Let Me Know

As a client of mine you may know me as an investment manager, but I have years of related experiences to draw upon.  Just let me know if there is anything else I can help you with.  Membership has its privileges, you know.  The only thing I ask in return is that if you have any friends that could use my services please think of me.  I’ll treat them just the way I have treated you.  That is the way I do business.

*    The model accounts mentioned in this article are hypothetical examples of how the strategy may work as designed.   Activity in client accounts may be different from that in the model in amount of each investment, specific timing of trades, and actual security used, which may vary from account to account.  Not all trades are profitable.  It should not be assumed that current or future holdings will be profitable.   A list of all trades in these accounts for the past 12 months will be provided upon written request.

**  The S&P 500 and Nasdaq Indexes are unmanaged lists of stocks considered representative of the broad stock market.  Investors cannot invest directly in the S&P 500 Index.

Balanced Strategy Description and Performance Information
Careful Growth Strategy Description and Performance Information
Flexible Income Strategy Description and Performance Information

This newsletter may contain forward-looking statements, including, but not limited to, statements as to future events that involve various risks and uncertainties. Forward-looking statements involve known and unknown risks, uncertainties and other factors which may cause actual events or results to differ materially from those that were forecasted. Information in this newsletter may be derived from sources deemed to be reliable, however we cannot guarantee its accuracy.  Please discuss any legal or tax matters with your advisors in those areas.  Neither the information presented nor any opinions expressed herein constitute a solicitation for the purchase or sale of any security.