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Good News-Bad News

Time for all you advisors and your clients to break out the champagne and celebrate. It has taken almost 30 years but it appears that many of the proponents of active management are “throwing in the towel” and searching for new sources of revenue. Thirty years ago, virtually every dollar invested in mutual funds, was managed by Wall Street firms claiming they could “beat the market”.  Management fees were high and in most cases you had to pay an 8% commission just to get started.

What follows, are direct quotes from Bloomberg Business Week dated June 27, 2016.

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“Top executives at some of the largest fund companies, including Larry Fink at BlackRock and Gregory Johnson at Franklin Resources, are warning that a reckoning is coming. The pain is focused on companies that emphasize active management, picking stocks and bonds in an effort to beat the market.”

“Over the past five years passive funds, attracted a net $1.7 trillion dollars in the U.S., while active funds saw a slight outflow. The active managers haven’t been able to show they deliver a performance edge for their higher fees. In the five years ended in December, only 39% of actively managed equity mutual funds beat their benchmark indexes, according to Morningstar.

“Fink, who runs the world’s largest money manager, said at a conference on May 31 that the shift into indexing will not only continue but will be massive.”

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I just wanted to share this with you advisors who have played no small role in bringing this about. You can truly say you’ve made a difference. It was not easy, especially in the beginning, but with the truth on our side, I knew we would win. We have, and I love it.

So what is the Bad News? The “bad news” is the persistence of commissioned driven investment advice and the obvious “conflict of interest”.  The “market” showed the failure of active management. A battle Wall Street knew it would eventually lose.

But hiring “salespeople” to provide investment advice is still a very profitable business strategy. It’s just too profitable to let “ethics” get in the way. It’s both sad and shameful. More next week……………..!

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“You Must Be Kidding”

Back in the early 70’s, I began my business career as an auditor with Arthur Andersen & Co. It was at times a bit boring, but I always felt a real sense of purpose knowing I was doing my part to keep publicly traded companies honest when reporting their financial results. The independent Financial Accounting Standards Board, or FASB, established the rules. The rules themselves were known as Generally Accepted Accounting Principles or GAAP. It was important for every publicly traded company to get an “Unqualified Opinion” from their independent audit firm when reporting their annual financial results. A “Qualified Opinion” would have a negative impact on the Company’s share price.

Our GAAP was considered the gold accounting standard for the world. After all, could any investor trust the management of publicly traded companies to be completely objective and honest when reporting their financial results?

Well apparently, the SEC doesn’t believe that independently audited Financial Statements in accordance with GAAP are all that important in today’s business world. According to a recent article in the New York Times, publicly traded companies are allowed to make up their own accounting rules when reporting their financial results. I’m not kidding. It’s true, as long as they also report results according to GAAP. Can you guess which results are reported to the press and to analysts making buy and sell recommendations to investors?

So how large is the difference between GAAP and MHWT (management’s hype and wishful thinking)? From 2014 to 2015 net income for companies in the S&P 500 was up 6.6% using the MHWT. Using GAAP, there was actually a decrease of 11%. Using their own accounting rules 30 companies managed to turn a loss into a profit.

Apparently there were regulations passed 15 years ago to restrict this creative accounting but the SEC shows no desire to enforce those regulations. I guess this is just one more bit of evidence that Wall Street has too much influence over our elected representatives.

 

Note: If you want to read the article the title is “Fantasy Math Is Helping Companies Spin Losses into Profits”. (New York Times, April 24, 2016)

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“The Hate Strategy”

I am sure you could think of half a dozen individuals you would like to be our next president rather than Donald Trump. I know I could, but not one of the professional politicians running this year would be on my list. I honestly believe Trump is winning because so many people are voting against the “political establishment” when they cast their vote for Trump. I have written in the past that the day was coming, when no longer will the candidate who raises the most money, be declared the winner long before the votes are cast. That day has arrived and apparently they still don’t “get it.” The flood of money being raised to stop Trump is simply driving more votes his way.

So the media is now starting to play the “Hate Card.” Just read the editorials, look at the political cartoons, and the covers of various magazines. Images of Hitler, Mussolini, KKK etc. are being used to inflame voters passion against this “evil monster.” “He must be stopped!” When the great “propaganda machine” is unleashed, by those who are seeing their agenda fail, mayhem and violence are sure to follow.

They’ve done it before. As a Vietnam Veteran returning home in the summer of 1969 I experienced the hatred the media generated towards all returning vets. We were told to change into civilian clothes as soon as possible and keep our Vietnam experience off our job applications. The media was against the war but their “hate campaign” was towards those of us who fought for our country.

So now they’ve focused the propaganda machine on Trump and anyone who dares to support him. His only support is from “uneducated white males” according to many in the media. I have always loved “The Week” magazine but they have joined the fray. A U.K. polling company claims that 20% of Trump supporters believe Lincoln should never have freed the slaves. So I went to Google and searched “Trumps comments about African Americans” and came up with nothing negative. Yet the media is intentionally trying to pit African Americans against Trump. Maybe it will work, but I believe most Americans are tired of being told by the media, what to think and who should get their vote.

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The “great” Debates

In the past I have lamented about people wasting their time watching reality shows such as the Kardashians or Housewives of Wherever. The Networks however, love the genre. The shows cost little to produce and there is no need to hire any real talent.   This is why they love Presidential Debates. They are also cheap to produce, and as with all reality shows, they don’t require a cast of talented people.

Tonight viewers will have the opportunity to watch the next Republican Presidential Debate. In hopes of maximizing the ratings, Fox has been creating as much hype as possible by “marketing” the show as a “smack-down” between Megyn Kelly and Donald Trump. Many of the things Donald Trump says are offensive to me, but I do like it when he goes after the “political establishment.”

As I write this, Trump has decided not to participate in tonight’s debate. I do not know what his motives are but do we really need to hear over and over again how each candidate is going to save America. “When I am President yada, yada, yada.” Perhaps we need to hear it twice, just to make certain there is consistency, but after that they should all go back to their day jobs, especially the governors and senators who are already on the public payroll.

These never ending campaigns are perhaps one of the reasons so many people choose not to vote. It’s not just exhausting for the candidates but for the voters as well. By the time we get to vote, the candidates have so demeaned each other it’s hard to get excited about voting for anyone. So on this occasion, I agree with Mr. Trump, this debate, ten months before election day, is probably a waste of everyone’s time. There are more important things to do.

I, for one, won’t be watching. My valuable time will be spent more constructively, walking my dog Joe.

P.S.   Michael Bloomberg must have read my last post: The Donald Phenomena.

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Investor Stereotypes

Stereotypes are sometimes programmed into us and they often lead to actions that are harmful to all concerned.  I have always believed that having an open mind and not judging others based on their gender, race, religion, or sexual preference is not only morally correct, but it enables us to know one another as individuals.  Although we have a long way to go, I believe that as a society we have made a lot of progress regarding relationships with those who may not be just like us.

As a financial advisor, when developing an investment strategy for a new client, I would always begin by discerning the “client profile.”  Assets, income, dependents, age, risk tolerance etc. were the variables I would use to build their investment strategy.  The client’s race, religion, gender or sexual preference was irrelevant to their needs as an investor.

But the clever folks on Wall Street seem to think that reinforcing the stereotypes that segregate us can be used to make a buck.  According to an article in the New York Times last week, “firms are creating units to serve a variety of ethnic groups, races, genders, and members of the lesbian, gay, bisexual and transgender communities.”  As if the investment needs of each group are unique.  As I read the article, the marketing folks creating these strategies, mentioned, for example, that Chinese like to gamble so they need investments with more risk and African American’s supposedly prefer real estate rather than equities.  And they believe that each individual investor may prefer to work with their own kind.  Perhaps they are right, but for me there is a huge disconnect with what should be the role of an investment advisor, and that is to help individuals have a “successful” investment experience.

As I was writing this I realized that I have my own stereotype to deal with-“Wall Street Bankers.”  I can’t get past my belief that they will always put their own profits ahead of their clients’ interest and sell investors whatever they want, even if it’s not appropriate for them.  I have an open mind but unfortunately, “Wall Street” continues to reinforce this stereotype.

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I hope you had a great Thanksgiving!  It was very special for me as my daughter, Leslie, brought a new grandson into the world.  My portfolio is now rather skewed with four boys and only one girl but it works for me.

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General Mattis-“It’s Fun to Shoot People”

A buddy of mine recently sent me a link a to story regarding Marine General James Mattis who, during a speaking engagement back in 2005, claimed it was fun to shoot people and fun being shot at (and missed). I had never seen the story and my buddy was inquiring as to whether or not I had ever met this “bad ass” Marine during my time in the Corps. The answer was no. I served from 1967-1970 and General Mattis joined the Corps in 1972.

I don’t recall ever enjoying being shot at, watching my colleagues die or seeing them maimed for life. Though I felt no guilt about the killing of NVA soldiers, their death was not something to be celebrated.

The General’s comments made it seem as if combat is like a big bar brawl, calling himself a “brawler”. To me this sounded like the boast of a man who had never seen combat up close and personal. So I went to Wikipedia to review his career.

He joined the Corps too late to see combat in Vietnam and by the time of the Gulf War he was already a Senior Officer. And, as anyone who has ever served in the Marine Corps will tell you, senior officers rarely get shot at or actually kill anyone. It’s the field officers, (Captains and Lieutenants) and the enlisted men (from the Gunnery Sergeant on down) who do the actual fighting.

I will always be proud of my service as a Marine and the views of men like James Mattis are not representative of the brave Marines I served with in Vietnam. I wonder what his views would be if he had actually experienced lethal combat.

But thinking about his time of service, it occurred to me that those Marines who had served in Vietnam (and survived) were retired by now. It is doubtful that today’s senior officers in the Marine Corps, just by historical circumstance, have ever seen combat “up close and personal”.

This observation is in no way intended to question their leadership ability, intelligence or courage. I would like to believe, that unlike General Mattis, they understand that combat is not a game (and it is certainly not fun.) Instead it is a duty that requires sacrifice and courage in the service of our country.

The Marines with whom I served had more courage than most people could ever imagine and many of them made the ultimate sacrifice. In my opinion, General Mattis demonstrated nothing but disrespect for them, their wives, mothers and children, who had to greet a Marine at the door delivering the news about their sacrifice.

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The Growing Wealth Gap

Income inequality and the gap between rich and poor are going to be “hot topics” as we move toward the mid-term elections in November and the discussion will become even more heated in 2016 when we elect our next president.  I believe these are serious issues and we need to find solutions.  Unfortunately, most of the proposed solutions we hear are geared to advance political careers with little thought given to the overall impact on our economy.

But before I speak about solutions I would like to point out what has caused a huge increase in the wealth gap over the past 5 years.  The rich, at their end of the spectrum, have investment capital.  The poor, at the other end, have very little if any investment capital.  With the Stock Market (as measured by the S&P 500) up over 125% during this period, it is obvious why the wealth gap grew dramatically.  However, during the prior 2 years the Market lost 50% of its value, and of course this narrowed the wealth gap.  (A market crash that narrows the wealth gap is not a solution to the problem.)

Capitalism will always favor those who have capital to invest, and unless we come up with a solution that encourages or even demands participation in the capitalist system, the wealth gap will only continue to grow.  I also believe that far too many politicians who claim to be advocates for the poor have an ulterior motive.  They benefit from having a constituency that is dependent on the government for their subsistence and that will always vote to keep them in office.

So how do we go about dramatically increasing participation in the capitalist system, with all the inherent benefits, currently enjoyed by those who have the means to participate?

Believe it or not, government can provide the answer.  Here’s how.  Every employer and employee (roughly 93% of the working age population) would be required to contribute to an investment account run by the government.  This capital would be invested in broadly based, low or no cost, passive index type market portfolios.  Employees would not have control over the investment decisions eliminating all the “emotional” mistakes that have severely damaged many retirement plans.

Wall Street would be against such a program because it would take away their ability to earn fees on what would be a very large pool of capital.  (But perhaps those on Wall Street, who believe they can “beat the market,” would be allowed to participate if they guaranteed that any underperformance would be made up out of their own capital.)   Something tells me there would be few, if any, money managers who would accept such a condition.

The amounts contributed, the allocation to equities relative to participant age etc. etc., would have to be determined but I believe that would not be very difficult.  Basically it would be a program that “enfranchises” most workers, allowing them to participate and benefit from our capitalist system.

A simple idea but it has to be a better way to go than simply redistributing income and/or wealth.

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