It is amazing to us. We run across client investment portfolio statements and there it is smack in your face-a Morgan Stanley account with all of the holdings in Morgan Stanley mutual funds! The next day, we see it again. An Ameriprise client with a 35% position in one Ameriprise mutual fund!?! Ever seen the Seinfeld episode where George Costanza is caught double dipping in the chip dip. Well, that’s exactly what this is—double dipping.
Below are 3 financial products that really shouldn’t be in your portfolio:
Proprietary Mutual Funds
How this is still legal is beyond belief, but some big brokerage houses are still doing it. It is not uncommon for registered reps and brokers, who are compensated all or in part by commissions or trailing fees from the mutual funds they sell, to suggest mutual funds from the family run by their employer.
If you walked into Whole Foods or Safeway and the only thing being offered were their own products, would you have a problem with this? Your investment account shouldn’t be any different. On one side, these funds may not be a reason to be worried, but generally they are not the right fit. This could be because of lower performance or higher fees. In fact, Ameriprise was confronted with a lawsuit that alleged the company breached its duty as an investment firm because they offered their own funds in their retirement plan and then were paid back the fees. Clearly, this is a conflict of interest in any moral person’s eyes. JP Morgan also settled a suit because they were steering clients into their more expensive proprietary funds. The list of firms goes on and on.
There are thousands of mutual fund families out there and it can become a bit confusing to the average investor. That doesn’t mean you don’t have a right to ask your broker why they are using a particular fund or why they are using proprietary funds.
Equity-Indexed Annuities
Equity Indexed Annuities are an insurance-based product where the returns are tied to some portion of the performance of an underlying market index such as the S&P 500. Your gains are limited to a portion of what the index gains and there is generally some sort of minimum return to limit (or eliminate) your risk of loss. As you can imagine these were pitched heavily to Baby Boomers and retirees after the last market downturn and are still being sold based upon fear today. Two problems here are generally high expenses and surrender charges that keep you locked in the product for years. The reality is that while most investors suffered losses during recent crashes, most clients, if they held onto their positions or bought while the market was at all-time lows had made up those losses and find themselves decently ahead of where they were. An expense laden insurance contract probably would not have made them any better off.
Load Mutual Funds
Be weary of the fees that mutual fund charge and the type of fund you are investing in. In the commissioned/fee-based world, reps often sell mutual funds that offer compensation to them and to their boss, their broker-dealers. A shares charge an up-front commission plus a trailing fee (often called a 12b-1) of somewhere in the neighborhood of 0.25% or more. B shares charge no up-front commissions, but carry an additional back-end load as part of the ongoing expense ratio. This can amount to an addition 0.75% or more added to the fund’s annual expenses. In addition these shares also contain a surrender charge that typically starts at 5% if your sell the fund before the end of the surrender period. In this current age, most B shares have been phased out. C shares typically have a permanent 1% level load added to the fund’s expense ratio and carry a one year surrender period. And of course, there are “No Load” Funds which do not have any type of surrender charge and are what most investors should be invested in.
Working with a transparent and independent fee-only financial advisor is really one of the only ways around these types of products. The independent part means they are not told what to sell or incentivized to do so. And being transparent with their fees via their website should help clarify how the investor is compensating their advisor.