The Investment Scientist

Archive for April 2011

My friend is a savvy businessman. However, like most Americans, he has a misconception: he thinks financial advisors are legally bound to put clients’ interests first. This can not be further from the truth. Everybody and his grandma can be a “financial advisor.” Unlike being a “physician”, there are neither legal requirements no educational qualifications. Whether a certain financial advisor is bounded legally to act in his client’s best interests all depends on his true profession. Here is an ad hoc summary:

Professional Title Fiduciary?
Attorney Yes
Certified Public Accountant (CPA) Yes
Registered Investment Advisor (RIA) Yes
Financial Planner Maybe
Certified Financial Planner (CFP) Maybe
Wealth Manager Maybe
Insurance Agent No
Registered Representative No
Stock Broker No

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Hedge funds are often peddled as a unique asset class that has outstanding returns that are uncorrelated with the market. In reality, hedge funds are as much an asset class as Las Vegas is.

Hedge funds are a general description of private investment companies that are organized as limited partnerships with fund managers as the general partners and investors as limited partners. The keyword here is private. By law they are not supposed to be sold to the public; therefore, they are exempted from government oversight. But sold to the public they are! It is not the first time unscrupulous “financial advisors” have pushed the limit of the law, while the SEC looks the other way.

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I recently met an entrepreneur friend of mine. I was pleasantly surprised to learn that he had sold his business and was now looking forward to retirement. He has about $1mm in his 401k plan. As any shameless financial advisor would do, I asked him if he had someone helping him manage his money.

“As a matter of fact, yes!” he answered. “A friend of mine is also a financial advisor, and he helped me create a balanced portfolio.”

He related that “50% of the money will be in safe investment—a (deferred) annuity that has a guaranteed yield of 5%; the other 50% will be in alternative investments for higher performance.”

To say that I was flabbergasted is a serious understatement. With a friend like that, who needs enemies?

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Watch the show and you’ll know what I meant.

In 1993, the Journal of Financial Economics published “Common risk factors in the returns of stocks and bonds” by Fama and French. They examined bond returns in particular through the lens of various asset return models.

Let’s look at one of those models: the Fama/French three-factor model. The regression statistics of various bond classes are summarized in the table below:

Bond class 1-5G 6-10G Aaa Aa A Baa <Baa
Alpha 0.72% 0.84% -0.84% -0.85% -0.96% -0.6% -1.32%
Beta 0.1 0.18 0.25 0.25 0.26 0.27 0.34
S -0.06 -0.14 -0.12 -0.11 -0.09 -0.04 0.04
V 0.07 0.08 0.14 0.15 0.16 0.2 0.23

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It’s April 20th 2011 today, my small independent fiduciary wealth management pratice ranked 16th by Google using keyword search “Wealth Management,” My practice is right in between Merrill Lynch and AllianceBernstein in the ranking. I don’t think I am in good company though, since the other two don’t abide by fiduciary standards.

Click to get The Informed Investor: 5 Key Concepts for Financial Success.

Inflation Ahead

Inflation Ahead?

[Adapted from my Morningstar contribution] A year ago this month, after a trip to China I wrote ominously about inflation hitting the US economy like a tsunami.

My opinion was based on two observations:

  1. China’s labor costs were galloping at a 20% to 30% clip per year, and so much of what we consume is produced in China now.
  2. The Fed was printing money like crazy.

So far I have been wrong. The February 2011 inflation rate was 2.11%; though a slight uptick from 1.63% in January, it was by no mean a tsunami. Recently, Fed Chairman Ben Bernanke testified before the Senate Banking Committee that the Fed projects an inflation rate of less than 2% for the next 3 years.

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Author

Michael Zhuang is principal of MZ Capital, a fee-only independent advisory firm based in Washington, DC. He is also a regular contributor to Morningstar Advisor and Physicians Practice. To explore a long-term wealth advisory relationship, schedule a discovery meeting (phone call) with him.



You may also get his monthly newsletter, or join his Facebook page for regular wealth management insights. Michael's email is info[at]mzcap.com.

Twitter: @mzhuang

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