Most stock brokers and financial advisors would rather take out their own tonsils with a rusty spoon than steal your money. But there are a few bad apples out there. In fact, they’re plotting how to get their greasy paws on your treasure right now. Let’s see what you can do to make sure your investments stay safe.
Does your broker or advisor follow the guidelines to protect you?
The issue at hand is “custody”. This refers to how the account is titled. If the account is held in your name, the advisor doesn’t have custody. But if the account is held in your advisor’s name you’ve got trouble.
Most advisors don’t have custody of your money and that’s a good thing. But some do.
If your advisor has custody – she has access to your money. That isn’t unlawful per se. I think its terrible business ethics but it’s still not a crime. What might be a crime is if they mishandle your funds. This is against the law even if it doesn’t lead to investment losses.
According to the SEC (the government agency that audits investment advisors) 1 in 3 of the firms they audited had exceptions when it came to the way they hold your money. This was reported by Investment News Magazine March 11, 2013. This doesn’t mean that these brokers and advisors are thieves.
But it does mean that they are breaking the rules that are meant to protect you. As you’ll see, most of these infractions are inadvertent and innocent. But those errors still leave the door open for trouble.
What safeguards are built in?
In 2009 the government passed the “Custody Law” to try to prevent another Bernie Madoff from getting his mitts on your money. You probably remember Bernie. He’s the low-life who took down $65 billion (that’s billion with a “B”) from unsuspecting investors. How did he do it? He had custody of investors’ money. That means he had access to the accounts so he could dip his greedy little hands into the till as he pleased.
As I said, most advisors (yours truly included) don’t have access to your money like Madoff did. We use third party custodians like TD Ameritrade, Fidelity or Schwab. Because we don’t have custody, it’s very difficult to pilfer your account. To be fair, a rotten financial advisor could still get at your dough if he or she was so inclined but they would have to forge your name to do it.
If they did that, and the custodian didn’t catch it, they could abscond with your funds. Of course SIPC insurance would kick in and in most cases make you whole. But this is fraud. It is a Federal offence and far harder to do. The custody rule was put in place for this exact purpose.
Does your broker have custody of your money?
Your broker might have access to your money without you knowing it. They might even have custody without being aware of it themselves. They might even have custody of your money even though your funds are deposited with a third party custodian. How? Here are just a few of the ways brokers and advisors are considered to have custody of your money:
- Your advisor is the trustee of your trust.
- Your advisor can write checks for you.
- Your advisor can pay bills for you.
- Your money is commingled with the advisor’s money in the same account.
- You don’t get a quarterly statement from a third party custodian.
Again, the SEC reported that 1 in 3 advisors violated the rules because they had custody without complying with the law.
Are 1 in 3 advisors crooks?
Probably not. The SEC did find that 30% of the advisors were non-compliant when it came to the rules that govern custody. But most of those infractions were minor. In most cases, they were technical violations made without malice. But just the same, the SEC did find a few players with major misconduct.
How do you safeguard against using a broker or advisor who has custody of your money?
First, make sure that your advisor isn’t doing any of the 5 things I mentioned above.
- Don’t appoint your financial advisor to be your trustee on your trust
- Don’t give your broker access to your money .
- Don’t let them sign checks or pay your bills.
- Don’t ever commingle your account with hers.
- Insist on getting third-party statements every month.
- Ask your broker or advisor if he has technical custody of clients’ accounts.
Again, just because a broker or advisor has custody it doesn’t mean she’s Bonnie Parker (Clyde’s companion). Just the same, it’s far better for you not to work with an advisor who has access to your money. Take the steps I suggested above – all of them – and you probably will never have to worry about your broker stealing your money.
Have you ever been robbed by a financial advisor? What happened? How was it discovered? Was it resolved? How?
Neal Frankle says
Thanks Jeff. Great point. I have always suggested that most investors stay away from anything with the word “futures” in it. I am not familiar with this particular fraud investigation. But even without the fraud, the risks and costs are just crazy. Thanks for another great comment sir.