The commission trap

So you’re an investor, and you’ve got seemingly unlimited options for your money. Some seem awesome, some look a little suspect, and for the most part, you’re not really sure what’s going to work and what to stay away from. Typically, you’d talk to some type of financial advisor. Or you’d succumb to your own hubris and decide to get online and do this whole investing thing yourself until it becomes clear that you’ve made a huge mistake, then you’d talk to some sort of financial advisor. But now instead of trying to figure out how and where to invest money, you’re trying to figure out how to pick a trustworthy advisor who can help you with the investing part. Well, I’ve got one piece of advice: watch out for the commission trap.

There are several different ways that financial professionals are paid, the two most common are through fees and through commissions. Some advisors only charge one way or the other, some do both.

A fee-based advisor means that if you’ve got money invested, the advisor collects a fee (usually a small percentage) from your investments every year. It’s a pretty simple, pretty common model, and it makes sense because the advisor is invested in your success. It definitely doesn’t mean that the advisor is trustworthy, but you can at least take comfort in the fact that it’s a sensical payment model.
On the other side is the commission trap. There are a few bad things about commissions:

  • It means you’re buying a financial product. Advisors who collect commissions only get paid when a client buys something. Financial products, while veiled as beneficial to the customer, are generally not the best option. They prey on people’s desire for security and charge a hefty premium for it (annuity). What a financial product offers can almost always be had for a fraction of the cost with a much higher ceiling for growth by simply investing in the market. Not every product is always bad, but you definitely shouldn’t be buying lots of financial products.
  • It means the advisor is collecting a large commission. These products, specifically annuities, will pay out massive sums to advisors who can peddle them. Commissions between 5% and 10%, and sometimes even more, are common. That means if you take your $500,000 investment account and buy an annuity, the advisor could be collecting between $25,000 and $50,000. That’s a lot, suspiciously a lot. Brokers will pay advisors these kinds of fees is because the product is extremely lucrative for brokers, which means it’s probably not super beneficial for customers. 
  • It means there’s a conflict of interest for the advisor. They’re stuck with the tough decision (or maybe not so tough) of educating and caring for their client and promoting their best interests or putting food on their own table for their own kids, or taking a super nice vacation, or whatever else you could get excited about buying for $50,000. Unfortunately, the advisor’s interest will likely lean toward the $50k. Better not to put yourself, or the advisor, in a conflicting situation like that. 
  • It means that you’re probably not getting coached. Advisors who sell products aren’t evil (mostly), but they have to function more like salespeople than advisors or coaches in order to survive. Best case, the salespeople are catering to clients, giving them what they want without trying to rip them off. Worst case, the salespeople are manipulating or aggressively pushing bad products to people. Either way, coaching doesn’t enter the equation. There is no correlation between a customer’s desire for or the suitability of a product and the long term success of a client. So instead of coaching and educating clients, financial salespeople end up helping clients orchestrate their own financial purgatory, never making progress towards their goals. 

So keep an eye out for the commission trap when you’re evaluating an advisor.

Motion vs Action

I read Atomic Habits by James Clear a little while back. The book is packed with helpful insights, a highly recommended read. One that stuck out to me is Clear’s distinction between what he calls motion and action.
Motion is like busywork or planning work. It’s often preparatory, and it rarely moves you forward. The great thing about motion is that it feels productive, but you don’t really have to do any real work. I love motion, and I’m really good at it. I’ve got my checklists and my idea notes, my daily planning routine, all of it.
We’ve all heard the phrase (well, maybe not all of us, it’s popular jargon in the business motivation world from Jim Collins) “good is the enemy of great.” Clear has a better one, a quote from Voltair, “the best is the enemy of good.” In our most impassioned moments when we’re moved to improve ourselves or situations, we tend to immediately get mired in thought about which direction to take. If you’re anything like me you’re obsessed with the theoretical best option. This applies to all sorts of things, like crippling indecision when facing a plethora of product options on Amazon, but especially when thinking about how to improve myself or my career or whatever else needs improving. What’s the best way to do it, or the best route to take? In my mind that’s the right question and it deserves a lot of attention. But the time I devote to that question is motion, and at this point, it’s close to 100% wasted. I might as well be tuning in to the financial news (gasp!).
In beautiful contrast stands action. We’ve got all sorts of nice pithy quotes for this one, “Well done is better than well said” (Benjamin Franklin), “Do you want to know who you are? Don’t ask. Act! Action will delineate and define you” (Thomas Jefferson), “Small deeds done are better than great deeds planned (Peter Marshal), you get the picture. These are a little soupy but they’re actually pretty close to the truth. We need action! Think about writing your grocery list. The list is great, especially if your handwriting is nice, but writing the list isn’t going to put groceries in your pantry. It can help guide your shopping trip which is valuable, but you’ll still be hungry until you actually go shopping. And if you had to choose, wouldn’t it be better to go shopping without a list than to have the nicest, cleanest, most thorough list without ever shopping? Think about sales calls. You could spend a lot of time formulating a call list and writing up the perfect script, but until you actually pick up the phone you haven’t accomplished anything. Lists and scripts are motion, shopping and calling are action, you get it. Motion isn’t worthless, but only action can create an outcome.
So that’s the point, as fun and busy feeling as planning and emails and lists are, those things are motion, and motion can’t move the needle, motion won’t ever create an outcome. Act!

The prediction problem

Investing is hard. If you’ve visited this blog in the past you’ve probably noticed a lean against active types of investing (buying and selling stocks all the time). Trying to predict the market, pick winning and losing stocks, find the best times to be in or out of different market sectors is really hard. Actually, the data suggests that it’s impossible, or at least no one has ever consistently been able to do it (Efficient Market Hypothesis). So prudent investing doesn’t leave space for active investing, the two don’t mesh. For many people, that’s not a satisfactory conclusion. We like to think we actually can pick winners, maybe not every time, but at least most of the times. We like to think we actually can see trends and understand market movements. We like to think we can make predictions. Well, call me a downer, but those instincts aren’t very helpful.
I’ve been reading through Factfulness: Ten Reasons We’re Wrong About the World – and Why Things Are Better Than You Think by Hans Rosling, a scintillating read. Rosling makes the helpful point that predictions about anything are never certain (he even specifically references the market), and advises readers to be especially wary of future predictions that don’t acknowledge that fact. So here’s my question: why is the future so tough to predict? Here’s my stab at it, with some helpful input from Rosling: the future tough to predict is because the world is far more complicated than we like to think. Rosling notes that the complexity of the systems involved make accurate future predictions essentially impossible. It’s impossible to predict the market because there are billions of factors to consider, all moving and changing every second. Even if we were able to consider each of the billions of factors, we would still have trouble guessing which direction they’ll each move because none of us knows the future. It just doesn’t make a ton of sense to actively trade stocks based on our limited understanding of market factors, not even for professionals. But there’s still happy news here. Even though we don’t know how the market will move today or next year, we do know that the long term general stint of the market is up. So we can actually stop worrying about predictions and news and market trends, those things ought to be the least of our concern, all we have to do is own the whole market as efficiently as we can and stay on for the ride. Owning the market efficiently is a separate discussion, that’s something professionals can actually help with, but the first step is to admit the prediction problem.

Thoughts on capitalism (part 4)

4: Capitalism isn’t perfect.

I wanted to finish up these thoughts on capitalism with an observation: capitalism is great, but it’s not perfect. Again, many of these thoughts are extracted from John Addison Teevan’s Integrated Justice and Equality which I can’t recommend highly enough, and a few are gleaned from Not Tragically Colored by Ishmael Hernandez.

Capitalism does not contain values, it’s amoral. It can’t distinguish anything on any basis besides price. For capitalism, there’s no difference between a missile and a bushel of apples besides its market value. This basically means that capitalism is as good (moral) as the people who are utilizing it.

Capitalism relies on the self-interest of humans, a pretty reliable foundation. However, apart from values, self-interest can quickly and easily devolve into greed. Greed is a problem, Teevan argues that it ‘flattens the soul.’ Greed changes the equation from self-interest to gross indulgence. It’s the opposite of moral, and it can wreak havoc on society.

We know that capitalism is the single greatest sociological economic force in creating wealth and alleviating poverty. But we also know it’s not perfect, it can be manipulated for greedy ends, harming people and environments. So what’s the solution? A popular conclusion is to hand over responsibility to the government to regulate and stipulate and care for the underprivileged, that personal generosity and compassion should be delegated. That’s a bad idea, for a few reasons:
(1) Government compulsion stifles generosity and compassion within society. Generosity means giving, void of any obligation or compulsion. When the government requires and stipulates giving, generosity dies. Not only do people resent the government for taking from them, they learn to resent the people to whom their proceeds are redirected. They learn to hold what they have closely. Why do you think CPA’s do so well? It’s not because they help people pay taxes, they help people pay the least amount of tax possible. People lose compassion when it’s delegated to the government.
(2) Redistribution deprives people of their dignity. Recipients of government ‘compassion’ efforts don’t receive a gift, whatever they receive becomes a right, an entitlement. Instead of gratitude, they learn to demand more. Instead of self-reliance, they learn dependence. Part of a person’s self-worth is lost in all this.

Instead, in order for capitalism to work in society, shared moral values, specifically personal compassion, are required. The delegation of personal generosity and compassion from the people to the government is destructive for everyone. Capitalism is as strong as the values of the people who embrace it. “P.J. O’Rourke is alleged to have quipped that civilization is a bootstrap operation: we have to work at being civil. We cannot assume that the bounty of wealth or the freedom to enjoy it can be continually provided without continual care” (Teevan, p121).

Bad News

I’ve been reading Hans Rosling’s Factfulness, a fascinating read, and I’m expounding on a few ideas I found there.
Have you noticed a problem with the news? It’s always bad. The latest horrible crime, the terrifying downturn in the market, the new depressing statistic, the next company going under, it’s so bad! All the bad news affects our thinking, it colors our picture of the world. It’s important to note that news rarely tells a complete story, and never covers the whole story. The stories we get through news outlets may be accurate but they’re missing things. For instance, the news will delve into the details of the latest horrifying plane crash but will never mention the number of successful flights which landed that day. And why would they? Successful flights are boring, they happen all the time. News outlets need drama, they need to get people to engage. So they find the most dramatic, depressing, terrifying, sad stories available. So what are we supposed to think? Seems like the world is pretty bad right?
The problem with good news is that’s it’s mostly boring. Good things often happen slowly, progressively, not in big leaps or bounds, not in dramatic newsworthy type events. That’s not because they don’t happen, they just happen in ways we don’t notice as much. They’re not engaging or dramatic. So we get bad news, which is a shame because bad news is depressing and tends to give us an inaccurate portrayal of the world. Rosling gives the example of crime rates. Most people in the developed world believe that crime is on the rise, a natural belief based on the terrible crime stories we’re exposed to in the news. In 1990, approximately 14.5 million crimes were reported, by the end of 2016 the number was down to 9.5 million despite a growing population. Not only is crime down, it’s way down. Rosling notes that we shouldn’t just be okay with crime when we understand that it’s decreasing, but we can stop stressing about our false assumptions. The crime situation is still bad, but also much better.
So next time you tune into the news, just remember what you’re getting. It’s bad, but it’s not the whole picture. They say no news is good news, that sounds about right.