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 People Have Spoken

Say what you will, but Super Tuesday was the best demonstration of Democracy at work I have seen in a long time.  And —- the “political establishment” is throwing a temper tantrum worthy of a two year old.  Fearful of losing their long held power over the selection of our political leaders, they are in a panic that the American people might have something to say about who becomes the next President.

I read the New York Times every morning to find out what is going on in the world, but this last couple of months it has become more like a Supermarket Rag.  The bias expressed in the editorial section has given me pause in the past, but that is to be expected.  They write what they believe just as I do with this blog.  Unfortunately that bias has become something close to slander and it’s all over the front page of the Times.

Party leaders of the Democratic Party are breathing a sigh of relief today that they may not have to rely on their “Super Delegates” to overrule the people’s choice of a nominee.  The Republican Party leaders (whoever they may be) have a real threat on their hands.  The Party has moved way to the right in their quest for power but ironically the guy winning the nomination is more of a “centrist” than any other candidate of either party.

Voters seemed to have figured that out and realize that Washington will never change if the current ideological war between the parties continues.  When Donald Trump first announced his candidacy I could not take him seriously.  His comments about Mexicans and John McCain were very offensive to me as they were to virtually everyone.  But as I look at his positions on different issues he’s definitely close to the middle.  Holding a press conference last night instead of a “demagoguery pep rally” was very clever.  I listened closely and I must admit, I was impressed.

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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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“The Donald Phenomena”

How could an individual with absolutely no experience as a politician, whose ideas for solving America’s problems are extreme at best and offensive to many, be leading all the professional politicians running for the Republican Party’s nomination?  Every day we read of, or hear, another “expert” attempting to explain what I call “The Donald Phenomena.”  On the surface, it is perplexing, when I think about many of the ideas he has put forth as solutions for our problems.

My “expert” opinion is that he is leading in the polls not because of what he says, but rather, what he represents.  He has “zero” connection to the “political establishment.”  For too long we have been governed by “career politicians,” who are dependent on, and beholden to, the “political establishment.”  Many eligible voters have come to believe that their vote just doesn’t count.  Trump may be using the Republican Party nominating process to reach his goal but it’s clear to me that he is the most successful “Independent” we’ve ever seen.

Those with political power, the Wall Street Banks, Unions, and the Media, define the “political establishment.”  Trump doesn’t need their money, creates his own media and will never court a relationship with most union leaders.  Frankly, he has become a serious threat to those with political power.

I don’t believe he will win and that is not what they fear.  Donald Trump is showing the world that a candidate, with no connection to the “political establishment” can win.  That scenario scares the hell out of them.  His success may very well motivate others, who are not “career politicians,” to serve the people of this country.  God knows the “career politicians” we are offered, by the “political establishment,” are not our “best and brightest.”

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The Spinning “Talking Heads”

Watching the “market” squeeze the “false credibility” out of the “experts” these past few days has been entertaining if nothing else.  After Monday’s drop the message was that “everyone should have seen the correction coming.”  For example, the lead story in the New York Times read “Signs, Long Unheeded, Now Point to Risks in U.S. Economy.”  OOPS!

I never have liked the term “correction” to explain a move in the market indices.  By definition it implies that the market “got it wrong,” being under or over valued.  So looking at the market as I write this, I guess the past few days the market “over corrected” and has now “corrected” the “correction.”  You can see how this starts to become a bit silly, but it also shows how little credibility should be given to the “talking heads” and journalist posing as “experts.”

But alas, they are not the problem.  As Pogo once said, “we have found the enemy and it is us!”  Investors, both large and small, demand an explanation regarding what has happened in the past, but more importantly, a forecast of what to expect in the future.  The first demand, an explanation of what has already happened, that’s not worth much.

The second demand, a forecast of what the market will do in the future, that would be invaluable, if only it was accurate.  Anyone who could make accurate forecasts consistently, would have unlimited wealth and not be spending their time on CNBC or Fox Business News sharing their forecast with us.

For you advisors, about a year ago, four years into a bull market, I suggested you hold a “fire drill” for your clients.  If you did, great, if not perhaps this would be a good time.  For you investors, not speculators, you are in it for the long run, so don’t waste your valuable time stressing about the market.  Enjoy your life knowing with certainty, that you will have a successful investment experience.

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How to Win an Election II

Winning the “money race” has always been a significant determinant in every political race but next in importance is the endorsement of those who control or influence large numbers of voters.  Several years ago, on a flight from Washington D.C. back to L.A. I had the pleasure of sitting next to a woman who was the second in command at a very large Union.  It was one of the most entertaining conversations I have ever had on a long flight, and one thing I will always remember was her stories regarding politicians seeking funds and endorsements from her Union.  “Groveling” is probably a more appropriate term than “begging” but whichever term you choose, she told me that most politicians were spending more than half their time raising money for the next election and/or offering their loyalty for an endorsement.

In my last “post” I expressed my hope that the continuing evolution of Social Media will lessen the impact of money in our elections but there is another change coming, thanks to Social Media, which may not be as positive.  We have developed a culture of “Celebrity Worship” in our country and although celebrity endorsements have been around, there was no Social Media connecting the celebrity with his or her fans.  Social Media creates a much more personal and intimate relationship that may be a lot more powerful.  Katy Perry has over 70 million followers, LeBron James 23 million, Justin Beiber 64 million, etc., etc.  Presidential candidates can only dream of such celebrity status. Hillary Clinton has 1.7 million followers while on the Republican side, much to my surprise; Donald Trump has over 2 million.  (Trump’s numbers probably have nothing to do with his recently announced bid for the White House.)

Oprah Winfrey’s endorsement of Barack Obama in 2008 is widely believed to have made the difference in his victory over Hillary Clinton.  At that time, many believed Oprah was the most powerful woman in America.  Basketball fans saw a simple Justin Bieber “tweet” put Kyle Lowry in the NBA All-Star Game.

Rightly or wrongly, celebrities have enormous marketing power.  Next year they may not be selling just shoes and cologne, they may be selling us politicians.  We may even see those candidates with the most money lose to those with the best Celebrity Endorsements.  The Media and all the political consultants may not like it, but the Social Media changes are coming.

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How to Win an Election

“Raise more money than your opponents.”  Sadly, this strategy more often than not, leads to success in politics.  It also corrupts our political system and leaves us far short of our desire to have “a government of the people, by the people, and for the people.”

Once the money has been raised (and all the promises made), how is that money being spent by those running for office?  I didn’t have to spend a lot of time using Google to confirm my suspicion that the biggest expenditures are for “media buys,” somewhere between 55-75% depending upon the year and the political office being sought.

Political campaigns are a huge source of revenue for the major networks and their local affiliates.  It’s billions of dollars, and the related expenses are negligible.  It has to be the most profitable segment of their business.  Recognizing this, I wouldn’t expect to see much effort from the Media to advocate any changes.

But change is coming for the following reasons:

1.    Social Media is a powerful tool, which can be used to reach voters.  Television ads may still be effective with older voters but the end is near.

2.    The cost of using Social Media is negligible.  Those running for office will not have to sell their soul to the highest bidder to get their name and message “out there.” “Big money” will no longer be writing the script.  That should be appealing to every voter.

Every day we see how technology and Social Media is changing the way we live, how services and products are delivered to consumers, and how we interact with others.  In my next post I will discuss the coming revolutions in our political system that may bring us closer to the democracy our Founding Fathers envisioned.

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It’s About Time II

I have shared with many of you, stories of my brief experience as a stockbroker for a major wire house back in the mid 80’s.  My experience was brief because it was apparent, from day one, that the lack of ethics and the exploitation of investors were ingrained in the firm’s culture.  My favorite “take away” from the many “sales meetings” was:  “if you can’t sell it with a clear conscience, we will find someone who can.”  (By the way, these sales meetings were always held in the basement far from the ears of customers.)  There were other cultural rules to be followed but the message was always clear, I was there to make money for the firm.  I was not there to provide investment advice, even if that was the advertised role of the broker.  It was apparent investors needed an alternative.

Fortunately investors do have a better alternative today, the “fee-only advisor.”  Being a part of the development of this new profession I came to know a great number of this new breed and many of them were “converts” from the “dark side” as I love to call it.  This conversion was easy because they had a conscience and wanted to work with a “clear conscience.”  As the years went by, I would hear stories about their experiences on the “dark side,” and they would always tell me that their experiences were similar to mine even if it was 10, 15, 20 years later.  In other words, nothing has really changed.

Thanks to research conducted by some folks at the University of Notre Dame you don’t have to take my anecdotal evidence that the Wall Street culture has not changed.  I came across this from a New York Times article yesterday summarizing the research.  Over 1400 Wall Street employees participated in the confidential survey.

You can and should read the survey but here are a couple of highlights:

1.    Of those earning more than $500,000 annually, 34% have witnessed, or had first hand knowledge of, wrongdoing in the workplace.

2.    51% of these folks believe their competitors are engaged in unethical or illegal activities to gain an edge in the market.

3.    32% of employees with less than 10 years experience would likely use non-public information to make a guaranteed $10 million if there was no chance of getting arrested for insider trading.  So much for a new breed of stockbroker.

4.    Nearly one third of respondents believe the compensation structure could incentivize employees to compromise ethics or violate the law.

There is more but you get the idea.  But here’s the kicker, the reporter writing the article was trying to make the point that Wall Street has not learned its lesson, even after the last recession.  I disagree; Wall Street learned its lesson decades ago.  Keep politicians, who make the laws, beholden to you while they are in office, and reward them, after they leave office.  Wall Street has no incentive to change the culture.  There is too much money to be made.  No one ever goes to jail and the billions in fines are insignificant relative to their bottom line.

Note:  nytimesdealbookmay182015

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