Recently a fellow Seeking Alpha contributor, Jake Zamansky, Esq., penned an article suggesting the investment game is rigged. Zamansky is a lawyer who has successfully clashed with Wall Street on previous occasions. His article highlights JP Morgan claiming "advisors were nothing more than "salesmen" peddling the firm's own "house" products rather than those which were in the best interests of their clients" " He claims proprietary products "provided a bigger "vig" for the house."
Zamansky's article, Is the Investment Game Rigged?, doesn't go far enough. The game is indeed rigged, but in a far more expensive and sinister way guaranteeing poor returns for many investors. Worse, almost every participant selling to retail investors is in on the game. Simply blaming JP Morgan and not every trust company, retail brokerage, and most financial planners is wrong. Most of these participants are, knowingly or unknowingly, in on the act.
The method behind Wall Street's most popular method of separating clients from their money is "asset allocation" using Modern Portfolio Theory (MPT). The idea is simple enough: charge 1% - 1.5% to ostensibly manage client assets in a way better than the clients could do for themselves. For that fee, which amounts collectively to tens of billions of dollars per year, clients purportedly get a method of diversification that will protect them on the downside, and expertise in choosing investment managers and rebalancing their account when necessary. Unfortunately, the assumptions behind MPT don't work. In many if not most cases retail clients are throwing their money away.
Every theory is based upon assumptions because if there were no need for assumptions a "theory" would be considered a "fact." The assumptions behind the way "asset allocation" is used today by retail firms are many including: 1) Investors have an unlimited time horizon; 2) Beta (the commonly used measurement of risk for an asset class) is stable through investment periods; 3)Rebalancing is necessary in order to buy poorly performing assets at the expense of selling better performing ones; 4) Assets values always return to their mean valuation over time; 5) Investors are rational and not emotional; and 6) Social, economic and political conditions have no effect on investor psychology or portfolio construction.
I believe every one of these assumptions was proven wrong in 2008-2009, and detailed my analysis in a book about the subject called, Your Investment Advisor Is Wrong! published last month. For example, I find the idea that equity and fixed income investments will go back to a mean return calculated during a generation of leveraging is foolhardy.
I believe investors want something better than the so-called "asset allocation" Wall Street is cramming down their throats at an extremely high cost. This includes: 1) Positive returns and not relative returns; 2) Returns that are likely to be realized within the investor's lifetime; 3) Tax planning as part of investment planning; 4) An investment policy based upon the individual investor's financial needs and complex feelings about money (not from a computer model used for all investors going into the same financial "product"); 5) Using the investor's feeling about gain or loss when constructing portfolios instead of assuming investors are "rational"; and 6) Defining risk appropriately (e.g., "being able to sleep at night") and not in terms that make no sense to retail investors (e.g., "marginal utility").
The problem is that financial advisors and their firms are married to asset allocation, at least the way it is practiced today! First, many advisors are unaware of other strategies to manage money. Alternative strategies are not taught in many financial advisor training programs. Next, the conventional wisdom ("asset allocation" )used today is so profitable that advisors and their firms do not want to change to a better client model that will cut into their margins. Lastly, retail advisors do not want to look foolish by admitting the failings of asset allocation. These firms have collected over a trillion dollars in assets by blindly following the conventional wisdom of "asset allocating" using MPT.
I don't want Seeking Alpha readers to think I am critical of Jake Zamansky's assumption that the investment game is rigged. I simply believe his thoughts about JP Morgan, which I have not verified, are specific. It is my opinion that the "rigged game" argument could also be applied to most individuals and entities selling the conventional wisdom of investment management to retail investors.
Full disclosure: Harry Beck, CFA is a consultant and financial advisor currently long shares of JPM in his personal account.
Disclosure: I am long JPM.