Mistakes that never need to happen

JP Morgan’s startling trading loss of $2-5 billion is a good reminder to investors to watch out for hidden problems in their own portfolios – unknowns that should have been known.  After the fact, it is easy to see how JPM went astray, but is it possible to see – or avert – one’s own problems ahead of time?  Yes, and here’s what to look for.

Surprises you can avoid

First of all, choose your money manager carefully. Unfortunately money attracts crooks, so make sure you Madoff-proof your portfolio with two simple steps:

  • Check with the cops:  All registered investment advisors are under the jurisdiction of either federal or state regulators.  Check your money manager’s SEC or state registration, also known as the Form ADV.  The site is user-friendly, and your manager can be searched by name, zip code, or number.  The site includes disclosures about types of clients served, compensation methods, potential conflicts of interest, regulator inquiries, crimes, etc.
  • Use an independent custodian: At the heart of the Madoff scheme was his unusual arrangement of acting not just as manager, but also as custodian of client assets.  Don’t accept that.  Insist on an independent custodian for your money.  We use Fidelity.  Other large custodians are State Street, Bank New York Mellon, and BlackRock.

Seat belt, airbag and crash technology 

Choosing your manager is an important decision. But no matter whom you choose I feel there are a few basic checks and balances that will dramatically reduce your chances of a major surprise or problem. It’s not realistic to expect perfection from your advisor, but it is reasonable to expect good faith, sound practices and decisions made with your interests in mind. Use these four simple steps to keep your investments on track with your wishes and goals:

  • Rules-based investing:  Any investment strategy used by your advisor should be clear, concise, and written down for all to see.  Ask for the rules, in writing. Discuss what these rules mean, and how they will drive the actions and decisions of your advisor. Ask for examples. Ask what happens if a particular investment or the whole market takes a big slide. When you fully understand and endorse the rules, make a mutual pact to stick with them. Revisit the rules occasionally to be sure they still fit your goals.
  • Glass box:  You should be able to see everything your manager is doing in your account in real time, via online access. If you can’t be sure what you own or see trades made on your behalf, you’re in a black box world where anything can happen and your risks skyrocket.
  • Diversification: Diversification is every investor’s first defense against any advisor who might want to recommend a favorite or “hot” stock. Diversify by quantity – hold dozens of stocks in an asset class to reduce exposure to single company’s misstep or misfortune. And diversify by asset class – hold many different kinds of stocks as well as bonds or alternative investments…with proportions driven by your need for returns and tolerance for risk. Watch your quarterly statements – online or on paper – to ensure your portfolio remains diversified.
  • Cost control: A major determinant of your long-term investment results is how much of your return goes to fees, loads and expenses. Discuss the role of fees with your advisor and be sure you are getting investments that benefit you, not just fund managers.

Index advantages

I am happy to say that these safeguards are standard operating procedure at Osbon Capital. In my view, index-based investing using exchange traded funds (ETFs) sets the standard for avoiding unknowns that should have been known.

ETFs are diversified by definition, holding dozens if not hundreds or thousands of securities. The index ETFs we use are completely rules-based and clear as glass; you can always see what you own and understand exactly what is going on in the portfolio. We strongly favor ETFs with low fees and expenses so you keep more of what you earn. And lastly, we document the individual allocation and diversification for each client quarterly, in pictures, in numbers, and in color. It’s that important.


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This article may include forward-looking statements. All statements other than statements of historical fact are forward-looking statements (including words such as “believe,” “estimate,” “anticipate,” “may,” “will,” “should,” and “expect”). Although we believe that the expectations reflected in such forward-looking statements are reasonable, we can give no assurance that such expectations will prove to be correct. Various factors could cause actual results or performance to differ materially from those discussed in such forward-looking statements.

Nothing in this article is intended to be or should be construed as individualized investment advice. All content is of a general nature. Individual investors should consult their investment adviser, accountant, and/or attorney for specifically tailored advice.

Any references to third-party data or opinions are listed for informational purposes only and have not been verified for accuracy by the Adviser. Adviser does not endorse the statements, services or performance of any third-party vendor without specifically assessing the suitability of a third-party to a client’s or a prospective client’s needs and objectives.


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