Is There Hidden Risk In Your Portfolio?

During his summer break from college, my son tried to sell me on the merits of the popular TV series, Burn Notice. In this TV drama, Jeffrey Donovan plays Michael Westen, a former covert operative who unjustly receives a “burn notice” – an espionage-style termination that results in the immediate eradication of his assets and influence, leaving him isolated and alone.

The finance industry has a similar practice. I call it the burned notice. The courts call it a Notice of Pendency of Class Actions. Ironically, within days of my son’s eloquent appeal for the TV drama, I received yet again, a burned notice, this time from the United States District Court of Maryland. This notice came courtesy of the fine work of Strong Mutual Funds and my former investment advisors.

Somehow, the folks at Strong found a way to accidently commit the crime of market timing, short term or excessive trading and various forms of portfolio churning all resulting in a $140MM settlement for 458 thousand burned investors. The burned notice instructed me that I should simply and carefully read pages of legalese, research my past holdings (which by the way – I never knew I had courtesy of my former wealth manager’s fund-of-funds investment methodology), enter the correct data (better not miss a detail or into the round file your appeal will go), and mail the document to receive some unknown bit of the settlement. How does that sound as a pleasant way to spend your Saturday afternoon?

My mutual fund journey painfully reminded me to the important concept of agency risk – the possibility a firm’s manager will not act in the best interest of its shareholders. With each intermediary that stands between you and your hard-earned retirement dollars, you compound agency risk. Introduce an investment advisory – agency risk. Buy mutual funds – agency risk. Have your investment advisor place your money into a funds-of-funds, agency risk upon agency risk.

It was not that long ago that most of us lived with a prevailing sense of cosmic responsibility. Agency risk was not a common topic of conversation. Those were the days when most fiduciaries believed they should do the right thing even when no one is looking.

But today, the Wall Street ethos has sadly crept further and further towards the “get rich at others’ expense” mentality. From the macabre and guiltless grin of Bernie Madoff, to the quiet SEC payoff this month by Goldman Sachs, to the brazen collateralized debt obligations hoisted upon the public’s shoulders, investors have become wise to the fact that Wall Street can no longer be implicitly trusted to work in their best interests.

As much as I want to like the fat, gray haired, old guy in the Smith Barney commercial who espouses, with a British accent to boot, that they make money the old fashioned way, I’m wise to shirk the rhetoric in favor of the facts. The “old fashioned way” is long gone for many money managers. I, alone, must keep a keen eye on my retirement dollars. There are few I can trust to do it for me and do it well.

Removing agency risk eliminates a very real threat to preserving your hard-earned retirement wealth and delivers peace-of-mind. By managing a diversified portfolio of low-cost exchange traded funds, you can sleep peacefully at night knowing that a Madoff is not is not lurking somewhere in your portfolio.

Meanwhile, the mutual fund crowd is saddled with the troubling burden of wondering if their burned notice may be coming in the mail.