Thursday, April 23, 2009

Danger Lies in the Fear of Asking Questions

Here is a MUST READ column sent to me by a friend. It discusses the role of asking dumb questions.

There are few traits in the investment world as important as understanding what an investment is truly all about. I have found that the minute I slow down a fast talking presenter whose presentation is filled with jargon, that the presenter can rarely explain in understandable terms what the investment is really all about.

I'm convinced that anyone who would have slowed down Bernie Madoff to understand what he was pitching would have run for the hills.

Another thing to worry about is black boxes, where someone seeking investment funds won't tell you how an investment is made. It's all black box stuff, you see.

In my role as consultant, clients will occasionally ask me to review investment opportunities, aside from the truly nutty stuff, i.e. secret government bonds that pay big time interest (Generally only available, LOL, to the Rothschilds) and an "investment adviser" who brought along documents written in Turkish, and then HE proceeded to supposedly translate them to me, as I sat there, about a supposed hidden LOL cache of gold, two passed an initial first smell test, but had black boxes that eventually blew up.

One involved a currency trading firm, Bristol Group, out of Los Angeles. They were dealing with a major clearinghouse out of Chicago which checked out, but they had no audited statements as to their over all trading success. They showed me a couple of statements of profitable accounts, but these were out of hundreds of accounts and they didn't have "permission" to show me any other accounts. I met the head trader who was Russian. He didn't speak English (nice touch)and spoke through an interpreter and all he could tell me about his trading technique was that he learned it in Moscow and it was top secret and he was not about to reveal this secret black box technique designed by a team of top flight KGB agents. I had to go back to my client and tell him the money is going into a reputable brokerage clearinghouse, but copies of two statements without an explanation of how the trades were put on did not impress me.

It turns out, what Bristol did is that for a couple of accounts they would put on separate opposite trades for a couple of accounts. In one, for example, they would short gold, in the other they would go long gold. Eventually they would have a couple of accounts that had spectacular gains. These were the accounts that they had "permission" to show me. As for any of the other accounts and new money that came in, they would churn the accounts for commission down to nearly zero. They were eventually busted.

In another situation in Texas, long before the current crisis, a bank by the name of Surety Capital was making tons of money in what is known as insurance premium finance and medical factoring. Surety was a national bank which meant that they not only were audited by the then-Big Six firm of Coopers and Lybrand, but they were audited by the FDIC, the Comptroller of the Currency and the Federal Reserve. A client was thinking of making a major investment in the bank and asked me take a look. Now, you had all these outfits auditing the bank, and you could pretty much follow 99.9% of the transaction the bank was doing, but for about 0.1% of the transaction there was a black box aspect. I had to tell my client that while the regulators were giving their thumbs up to the operation and that the chairman of the bank, C. Jack Bean, was a great guy, he was not the number cruncher of the operation and was as clueless about the 0.1% black box aspect as everyone else. I told my client that this was the type of situation that could go smooth for a long time but eventually you are going to get a call from the straight shooting C. Jack Bean that will start out, "We have a big problem."

My view of the investment was outweighed by the views of the Fed, the Comptroller etc., and my client did make an investment. It took three years, but he did get the "We have a problem" call from C. Jack Bean. Surety's black box blew up and I think the stock trades these days on the Pink Sheets for pennies.

A lot of what went on in the banking world just before the crisis was black box stuff and fast talking salesman filled with jargon laced presentations.

Always ask the questions, and if you can't understand the full investment even after asking the questions, take your money and run.

No comments:

Post a Comment