Wall Street’s Interests Are Not Your Interests: A Case Study

Over 25 years ago, Wendy Dominguez and I left our Wall Street firm to start an independent, fee-only fiduciary advisor. Back then, becoming independent was like oil and gas wildcatting; very few advisors were willing to escape from the security of a large firm. Most embraced the sales culture and massive conflicts of interest that compromise client advice, conflicts that are still very prevalent today. We forged our own path and formed Innovest.

Fortunately for the investor, more advisors left Wall Street over the years to serve investors in an unconflicted model. Interestingly, though, many independent and fee-only fiduciary firms are “hitting the high bid” and rejoining Wall Street for big cash, often to the detriment of their clients.

In our newsletter, InnoViews, we are bringing our readers a series of short, real-life examples of how the Wall Street culture takes advantage of clients. Some of the details are changed to protect the identity of the client, but the premise remains.

This Quarter’s Story – Structured Contract

We were referred to an executive who had a single position in a publicly owned company worth just over $25 million. The risk with any single position is the potential for wide swings in value. Concentration can create enormous wealth, as well, but we all know stories of single stocks collapsing and decimating investors. In this case, the executive’s law firm created a prepaid variable forward contract with his Wall Street broker. The terms seemed attractive: the sale of stock would be made to the brokerage company for the majority of the value of the of the position with a set variability of cash proceeds, a large loan against that security, and tax-deferred capital gains. It sounded very appealing to the executive, but there was a question that would not get answered: what is the broker making on the transaction?

Innovest recommended bidding out the transaction to various banks in a competitive process. In the end, the executive’s contract was consummated successfully, but through this competitive process our client saved over $900,000 from the original plan. Until competition was created, the broker-advisor was taking advantage of their relationship, making nearly a million dollars – far above the market for this type of transaction.

The moral of the story is this: because of their size, Wall Street likes to promote their pricing power. However, the culture of Wall Street dictates getting the most compensation that they can. The savvy investor will make sure the interests of the advisor aligns with theirs.