THE MYTHS OF MANAGED MONEY

By Lee Degenstein
July 2007

Back in 1971 Wall Street critic and author Richard Ney penned a book called “The Wall Street Jungle”. The first line of the book was, “No one seems to have any fun around here anymore”, those were the words of I.W. “Tubby” Burnham founder of Burnham & Company which later became Drexel Burnham Lambert.

Truer words were never spoken. A few years later negotiated (discounted) commissions came into being, offering clients a cheaper way to invest in stocks. Then in1974, Charles Schwab launched the nation’s first discount brokerage firm and Wall Street has never been the same for one very simple reason, discounted commissions cut into the profitability for brokerage firms and revenues became quite unpredictable.

In an effort to stop shrinking profit margins, Wall Street’s answer was to come up with more, but not necessarily better investment choices for the investing public. Traditionally, the major brokerage firms like Merrill Lynch, E.F. Hutton, Prudential Bache, Shearson and Paine Webber offered its customers just a few investment choices, such as stocks, corporate, municipal and government bonds and a few mutual funds. Today of course the investment menus offered by firms allow investors a choice of nearly 100 different products and services.

In the late 1970’s E.F. Hutton invented a new product which it called Consulting Services. This allowed qualified investors to place their money with a portfolio manager who worked outside of the firm. These managers heretofore only managed the money of millionaires. This took the investment choices out of the hands of stockbrokers and into the hands of money managers. All that the broker had to do was to choose which money manager to place his client’s money with, and oh yes, collect a fee for that service.

Rather than charging commissions, investors paid a management fee which typically ran between one and three percent of the assets under management. Fee based business were here to stay. Brokers were paid a cut of the fees (about 40-50 percent in most cases) four times a year.

Managed money was a great innovation for brokerages because for the first time firms had products that produced recurring and more importantly predictable revenues. Stockbrokers’ income no longer solely depended on how the Dow Jones average performed. Today, virtually every brokerage firm (including Charles Schwab) offers managed money services to their clients. Some firms only require as little as a $25,000 investment.

So is managed money right for you? Of course that depends on things like your investment goals, how much you have to invest and how involved you want to be in making investment choices. However there are several myths about managed money that you should know about before dipping your toes in the fee based investment pool.

MYTH ONE:
Paying a fee rather than per trade commissions, and having your money “managed”, could be cheaper in the long run.

FACT ONE: If you don’t make a lot of transactions, managed money could turn out to be more expensive than just paying straight commissions. If you have bonds in your account you could wind up paying for these bonds to be managed while they are just sitting in your account, thus lowering yields. If you are a long term investor there should be no need to make several transactions.

MYTH TWO:
Your broker says, “Let’s put your money in the hands of a professional money manager. Your money will be managed and followed on a full time basis not by one person but by a whole team”.

FACT TWO: Your broker is supposed to be a professional. Whether you call him a financial consultant, stockbroker registered representative or money manager, a broker’s job is in reality to manage your money. In most cases, when you have your money managed by outside people your dollars are typically commingled with other investors’ money. You have virtually no say in what the manager invests in. You never speak with the money manager directly you just deal with your broker.

MYTH THREE:
Having your money managed puts you and your broker on the same side of the table when it comes to account activity and the inherent conflict that lies within.

FACT THREE: Your broker should have always been on your side of the table. If he or she is making trades just to generate commissions then you should drop that broker like a bad habit especially if these trades have been losing ones. You should also be aware that there is a good chance the money manager is executing trades through your broker’s firm. This is the money manager’s way of “paying back” firms for placing their client’s assets with them.

MYTH FOUR:
Money managers have access to research from all around the street as well as being able to speak with management of the companies in which they invest, therefore they must be better informed than just a broker.

FACT FOUR: Technology like the internet gives you access to research from all around the street. Most brokers can get other firms research in less time than it takes to make a cold call. With the advent of Regulation “D” a company can not disseminate news or information to just a couple of analysts of managers. All new news from a company must be disseminated to all interested parties at one time not piecemeal.

My father who was a stockbroker for more than 75 years always said “never confuse brains with a bull market.” From the mid 1990’s until the bubble broke after 9/11 the stock market scored unprecedented gains. It was tough to lose money in the market during that time.

However in the post 9/11 market environment, making money became more difficult. Instead of having returns of 20% plus, investors had to settle for smaller gains and in all too many cases suffered losses. Then on top of those losses those investors had to add a management fee for the privilege.

IS MANAGED MONEY RIGHT FOR YOU?
Managed money is right for you if:
1) You have more than $100,000 to invest
2) You want no part in making investment choices
3) You make a lot of transactions
4) You feel comfortable with the money manager your broker has chosen
5) You can get your money out at any time

DO THE MATH
Go through your transactions for the last 12 months. Add up those commissions. Then calculate what the management fee would have been on your account. Your broker can give you an idea of the fees that a typical money manager would charge. So let’s say on your $100,000 account you spent $800 in commissions. Your broker tells you that a typical money manager charges 2% which of course would result in a $2,000 fee. Ask your broker to justify the additional $1,200 in fees you would be charged should you choose to go the managed money route. Then you have to ask yourself is it worth it?

While saying that you are having your money professionally managed may sound good on the golf course, take a look at both the upside and downside of this form of investing. One thing you can be sure of, managed money is great for your broker and his/her firm but that certainly doesn’t mean it is right for you. If you don’t have a lot of money to invest you may do better by investing in a Mutual Fund with a good track record.


Lee Degenstein has covered the financial markets for print and broadcast media for more than 15 years. Mr. Degenstein was also the news director and morning anchor at two major radio stations in New Jersey. He has been a reporter/contributor to United Press International, The Associated Press, The Mutual Broadcasting System and New York 1 News. A winner of the Associated Press award for 'best business story' he lives and works in New York City. Mr. Degenstein can be reached by email at: lee723@verizon.net
© Copyright 2007 Lee Degenstein
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