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Investing: A Friends and Enemies List

Daniel Solin

Investing reminds me of Bizarro World, the fictional planet immortalized in DC comics. In this upside-down world, everything was the opposite of what you would expect it to be. Beauty was shunned. Ugliness was prized. Bestselling books taught readers how to lose money.

In the bizarro world of investing, those posing as your friends are really your enemies. Others you may never have heard of are your best friends. Here are some examples:

Market-beating brokers and advisers. They make every effort to appear as your friends, but they are really your enemies. They may pray with you, golf with you or socialize with you, but the irrefutable data tells us you would likely be better off if you didn't use their services. They hire celebrity endorsers to seduce you into trusting them, but their real goal is to get control of your assets and engage in stock picking, market timing or fund manager picking. There is no credible data indicating anyone has these skills.

Actively managed funds. This is another enemy. Their fees are significantly higher than comparable index funds. The majority of them underperform their benchmarks over both short (one year) and longer time periods. There is no way to pick the minority of these funds likely to outperform in the future. It's an entire industry premised on an expertise that does not exist.

Standard and Poor's. At last, a friend. Its biannual SPIVA reports measure the performance of actively managed funds against the relevant benchmarks. These really are the reports Wall Street does not want you to read. In 2012 (as in previous years), active managers in all but two categories underperformed their respective benchmarks.

Vanguard and Dimensional Fund Advisors. Both friends. Vanguard's index funds carry some of the lowest expense ratios in the industry. Dimensional Fund Advisors has pioneered "the science of investing." Second to the SPIVA Reports, Wall Street is fearful of this brilliant white paper that explains an intelligent and responsible approach to investing. As in bizarro world, it's likely the opposite of what you are doing.

iShares by Blackrock. iShares can be a friend or an enemy. If you use them to put together a globally diversified portfolio of low management fee funds in an asset allocation suitable for you, they are a friend. If you misuse them by trading frequently or selecting slices of the market you believe will outperform other market segments, they are an enemy.

FINRA. FINRA describes itself as a regulator of the securities industry. It's an enemy. It does a terrible job regulating its member firms. Worse still, it requires them to force investors into a mandatory arbitration system where disputes against brokers are heard by a panel of arbitrators it appoints.

Recently, there has been an understandable movement to eliminate this system. William Galvin, the distinguished Secretary of the Commonwealth of Massachusetts, told a congressional subcommittee that FINRA's mandatory arbitration system is "an industry sponsored damage-containment and control program masquerading as juridical proceeding." His views are shared by AARP, the North American Securities Administrators Association and 37 congressional representatives led by Senator Al Franken. Franken's letter to SEC chairperson Mary Jo White stated that: "When brokers engage in fraudulent or illegal behaviors that lose investors' savings, mandatory arbitration clauses limit investors' ability to protect their rights under the law." Bravo. Hopefully, this disgraceful system that exists to protect brokers at the expense of investors is on its last legs.

There are too many friends and enemies to cover in one blog post. I will continue this list next week.

Dan Solin is the director of investor advocacy for the BAM Alliance and a wealth adviser with Buckingham Asset Management. He is a New York Times best-selling author of the Smartest series of books. His latest book, 7 Steps to Save Your Financial Life Now, was published on Dec. 31, 2012.

The views of the author are his alone and may not represent the views of his affiliated firms. Any data, information and content on this blog is for information purposes only and should not be construed as an offer of advisory services.

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