Investors Are on Their Own

01/29/2009 2:55 pm EST

Focus: MARKETS

Howard Gold

Founder & President, GoldenEgg Investing

The last few months have left investors battered and shell-shocked.

The market meltdown, the continuing financial crisis, and the mammoth Bernie Madoff scandal have forced us to face some hard truths.

We’ve been betrayed by Wall Street, abandoned by Washington, and let down by many financial advisors. And, like it or not, we are going to have to get more involved in managing our own investments than we ever planned to.

Why? Because the people who were supposed to be the stewards of our economy and finances have utterly failed.

Honestly I’m getting sick of writing about Wall Street, but you know the line—“every time I think I’m out, they pull me back in.”

The latest episode of this soap opera, of course, involves Merrill Lynch’s former chief executive officer John Thain, who engineered the sale of the venerable brokerage firm to Bank of America last September after Lehman Brothers’ collapse threatened to sink the markets.

Last week I wrote about how Thain accelerated billions of dollars in bonus payments to Merrill employees just days before the sale to B of A closed, and how B of A then asked for government aid to plug an unforeseen $20-billion hole in Merrill’s balance sheet. So, those bonuses were effectively paid by you and me, the US taxpayer. New York Attorney General Andrew Cuomo has stepped up his investigation.

But long before taxpayers were involved, these firms showed absolutely no regard for their shareholders. After John Thain took over Merrill Lynch in late 2007, he promptly spent nearly $1.2 million to redecorate his office and nearby conference rooms.

Thain has apologized and will reimburse the money. But the renovation came after Merrill had reported nearly a $10 billion fourth-quarter loss, and tens of billions of dollars in shareholders’ wealth already had been incinerated. Did Thain even think about the shareholders when he signed the work orders for those fancy fixtures?

And what about B of A, a serial acquirer for decades? Its management claimed to be shocked, shocked by Merrill’s “sudden” $15-billion loss in the fourth quarter of 2008 due to problems beyond subprime, “including write-downs of commercial property and leveraged loans, and losses tied to credit bets,” the Wall Street Journal reported.

But last year I included Merrill in a workshop for the Money Show on reading financial statements. Its late 2007—early 2008 financial statements clearly showed that Merrill had made few write downs for possible losses in commercial real estate and other things. That, I told workshop attendees, was a red flag.

Shouldn’t the people who ran America’s largest bank have seen that, too? And shouldn’t they have been thinking of their shareholders rather than building empires?

Which brings us to the government. Since the crisis began in the summer of 2007, the Federal Reserve and Treasury Department have tried everything to save the financial system from collapse—from massive liquidity infusions to bailing out Bear Stearns, AIG, Fannie Mae, and Freddie Mac, to cutting the federal funds rate to near zero.

Most notoriously, former Treasury Secretary Henry M. Paulson, Jr. pushed the $700-billion Troubled Asset Relief Program (TARP) through Congress in the midst of panic selling in the markets.

The government then spent the money faster than a teenager racks up cell-phone minutes, with virtually no conditions for banks who got handouts—no disclosure, no requirements to lend the money out, and of course no restrictions on bonuses to those below the top tier.

Fortunately, a public outcry forced Treasury to tighten up its requirements, and new Treasury Secretary Timothy Geithner has promised an overhaul of the program, with more accountability and transparency.

Still, the lack of sensible regulation of derivatives and mortgage lending caused this crisis in the first place, and much of the government’s response has been helter skelter, if not downright disastrous (i.e., letting Lehman fail). The new economic stimulus plan, which passed the House Wednesday along a strict-party-lines vote, is a gigantic mish mash. And the Securities and Exchange Commission (SEC) has been missing in action for years.

There’s JUST no way around it—so far, the government has failed us, and the public’s skepticism about its future success is fully justified.

They’re not too happy with their advisors, either. There’s only one Bernie Madoff, thank God, but in ways big and small, many financial advisors and money managers have dropped the ball for their clients.

A recent survey by Prince & Associates revealed that “81% of investors with $1 million or more in investable assets planned to take money away from their adviser, while 86%  said they would tell other investors to avoid the firm.”

Indeed, 2008 was a disaster for some of the most prominent mutual fund managers, including Bill Miller of Legg Mason Value Trust and Ken Heebner of former high flyer CGM Focus. Once again, more than 60% of actively managed funds underperformed low-cost, plain-vanilla indexes.

Hedge funds, which amassed nearly $2 trillion in assets by promising investors absolute return, have used all kinds of tricks to keep clients from pulling their money out as massive withdrawals and poor returns caused assets to drop to $1.2 trillion last year.

Even top university endowments like Harvard and Yale, pioneers of investing in alternative assets, took it on the chin, causing painful belt-tightening in the institutions whose money they run.

And when you add Madoff and other unscrupulous money managers emerging from the woodwork, it’s surprising that investors trust anybody.

Well, they shouldn’t.

Investors simply can’t afford to sit back and let someone else do the work anymore. The failure of the institutions that used to protect us and manage our money means we need to get educated, ask questions, and take more control over our financial destiny.

Investors need to put money with reputable, established institutions that don’t try to push products or claim to produce extraordinary returns. Divide up your assets among several managers and watch them regularly—and if you see something unusual and can’t get a straight answer, run for the hills.

And there’s no way around it: To be a successful investor, you simply have to put in the time—at least one evening a week. Whether you analyze your statements, work on a  financial plan, evaluate 529b college savings plans, or research a stock, ETF,  or mutual fund, you’ll need that one evening a week to do it.

No one said it was going to be easy. Last year, we all learned that lesson the hard way.

Howard R. Gold is executive editor of MoneyShow.com. The opinions expressed here are his own and do not necessarily reflect the views of InterShow or MoneyShow.com.

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