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In Your Best Interest or Your Advisor's? Part II


Gain a greater understanding of any potential factors that may influence your advisor's financial recommendations by asking the right questions.

In the last few years we have seen a sharp increase of questions about how investment firms make money from their clients. A 2011 survey by Cerulli Associates and Phoenix Marketing International found that nearly two out of every three investors were confused about how they were paying their advisors.

In part one of this article, we requested that you ask your advisor if they owe you a fiduciary duty as a client, and we suggested that you ask for a detailed explanation of how your advisor is compensated. This article will provide three additional questions to help you uncover potential conflicts that may not be obvious to the typical investor.

Question 3

Does your advisor’s firm make money in other ways on your individual investments?

Request clarification on the ways that your advisor’s firm may receive financial benefit from the securities you own in your portfolio. As an example, mutual funds commonly offer revenue sharing arrangements with a broker-dealer firm. In this scenario, your advisor at broker-dealer firm “XYZ” is receiving security analysis provided by its research department, which creates a “buy list” of securities. Unbeknownst to you, XYZ receives compensation from the fund company offering the recommended products. The result is a higher fee to you, the investor.

You will not see these fees appear as a line item on your statement; they will be hidden within the underlying investments. This lack of transparency will not only prevent a client from recognizing the true cost of the relationship, it may create a bias in the research provided to the client’s advisor.

This scenario can apply to closed end funds, exchange-traded notes and other securities that will impact the bottom line of the firm, even if your investment representative may not receive additional compensation.


Discount brokerage firm XYZ offers to manage client assets at a reduced cost of 0.80% of assets under management for Client A. The representative at XYZ purchases $150,000 of retail shares of a bond fund with an operating expense of 0.75%. The rep does not receive compensation for choosing this fund; however, his firm (XYZ) receives revenue sharing directly from the fund company.

A registered investment advisor (RIA) for Client B charges 1% for his services and purchases institutional shares of the same fund with an operating expense of 0.46%. RIAs often have access to the lower cost shares offered by certain mutual fund families.

In this scenario the “discount” brokerage relationship results in a slightly higher cost to Client A because of hidden revenue sharing, despite charging a lower management fee for their service.

(Note: Operating expenses represent actual net expense ratio as of July 31, 2012 of Pimco Total Return Fund Class D PTTDX and Pimco Total Return Fund Institutional Class PTTRX.)

Question 4

Does your advisor utilize proprietary securities?


Proprietary products are not always easily recognizable, as they can be branded under a different name. In house products are not necessarily poor investments at the moment the recommendation is made to a client. The problem arises when circumstances change and it is no longer in a client’s best interest to continue to own the underlying security.

Will the “in-house” research recommend that their team of advisors liquidate the position in each of the firm’s client accounts? Consider the impact of mass redemptions in a proprietary security. Who is going to be on the other side of that trade?


XYZ firm runs a highly rated international bond fund with heavy exposure to European bonds. A team of brokers are looking out for their clients and contacts their research team to express concern about the recent drop in price of the investment. The research team of XYZ assures the brokers that they have adequately hedged the portfolio.

A month later, concerned about the potential liability of a poorly performing investment, XYZ firm removes the fund from the institutional portfolios they are managing. The large redemptions create a significant drop in the price of the fund. A notification is then sent to the brokers explaining the firm’s position after the price drop has occurred. The individual investor has faced substantial losses, while the firm has minimized the damage to their largest institutional clients.

Question 5

Does the advisor’s firm engage in investment banking activities?

If the answer is yes, determine how your financial professional (and the firm) is compensated on your purchase of that investment. What is the incentive of the firm to see that the entire offering is filled?


There are countless examples of Initial Public Offerings where individual investors have been sold on tales of tremendous growth opportunities, only to experience disappointing returns and a substantial loss on their investment. The recent handling of the high-profile IPO of Facebook has resulted in numerous lawsuits and continues to raise questions about the inherent conflicts in the underwriting process.

Potential conflicts of interest

We recognize that this is not a complete list of the questions you should be asking your current or prospective advisor. One of our objectives in this article was to help you identify the potential conflicts in a traditional brokerage relationship, where costs are often much higher than they initially appear. An RIA typically will charge a fee that represents a percentage of the assets managed and does not receive compensation from the investments that are recommended.

Our hope is that by asking the five questions we have referenced in our two articles, investors will have a greater understanding of the potential factors that may influence the recommendations of their advisor.

If every trade made on your behalf is not unequivocally for your benefit, it is time to re-evaluate the relationship you have with your financial service provider.

David Mandell, JD, MBA, is an attorney, author of five books for doctors, and principal of the financial consulting firm OJM Group, where Andrew Taylor works as a Certified Financial Planner and investment advisor. To contact the authors for a free consultation or to receive a free (plus $10 shipping and handling) copy of For Doctors Only: A Guide to Working Less and Building More, please call (877) 656-4362.


OJM Group, LLC. (“OJM”) is an SEC registered investment adviser with its principal place of business in the State of Ohio. OJM and its representatives are in compliance with the current notice filing and registration requirements imposed upon registered investment advisers by those states in which OJM maintains clients. OJM may only transact business in those states in which it is registered, or qualifies for an exemption or exclusion from registration requirements. For information pertaining to the registration status of OJM, please contact OJM or refer to the Investment Adviser Public Disclosure web site (www.adviserinfo.sec.gov).

For additional information about OJM, including fees and services, send for our disclosure brochure as set forth on Form ADV using the contact information herein. Please read the disclosure statement carefully before you invest or send money.

This article contains general information that is not suitable for everyone. The information contained herein should not be construed as personalized legal or tax advice. There is no guarantee that the views and opinions expressed in this article will be appropriate for your particular circumstances. Tax law changes frequently, accordingly information presented herein is subject to change without notice. You should seek professional tax and legal advice before implementing any strategy discussed herein.

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