Regular readers have heard me discuss the ongoing battle between "the powers that be" and truth sayers. TPTB make more money when markets are going up. They love the status quo. They love assumptions that you can plug into a spreadsheet and take to the bank. They love steadily rising markets that encourage consumers to spend. And, they especially love it when the public gets excited about stocks.
Most of us have heard it said, "if you're playing poker and you're not sure who the sucker is, you're the sucker. On Wall Street, small investors are the suckers. They're the last to get meaningful research. They're the last to be presented actionable ideas. And, they're the last to clue in when something is overpriced -- because they've been sold on the idea that it's the deal of a century.
If an investment is being offered to an individual investor, it's because institutional investors have already turned up their noses at it. When I was a newly minted stockbroker in my 20s, every other week the tax shelter product specialist would show up (with donuts!) and explain all about the next big thing being made available to our clients. Whether it was Greyhound buses, mini-warehouses or luxury hotels -- there were always glossy brochures, impressive pro-formas... and commissions. Big commissions.
Before long, someone would shout out "what's the yield to broker?" In other words, how much money can I make by peddling this crap? And, it was a lot. Typically, there was a 7-8% commission involved, of which brokers could keep 30-45%. So, a client who brought in $100K in response to an ad they saw during TV golf on Sunday would get fleeced for $8,000 on Monday. The broker could take home $3,000 at the end of the month. Three or four of these per month made for a pretty good living for a young master of the universe.
Best of all, these deals didn't go south the day after the closing. So, it took a while before the client realized how badly he'd been hosed. In the meantime, he'd sign up for several more of these sterling deals -- making the broker even more money. Eventually the deal would flop, the client would get pissed and either leave or sue (oops, guess he shouldn't have signed that arbitration agreement.)
The broker would be sad to see him go, but was busy taking in more new customers who had yet to make their contributions to the cause. There came a point, when Sears bought Dean Witter ("how 'bout some stocks with those socks?") that it became apparent to many of us young Turks that the game had changed. We were in the business of selling stuff. And, our firms didn't care so much about clients leaving by the back door because so many were coming in the front.
I grew up watching my grandfather invest. As the treasurer of a major corporation who cut his teeth at the Pittsburgh Fed during the Depression, he knew his way around the world of finance. I thought it would be a noble calling -- helping investors achieve financial independence. When I realized during those first couple of years that I was simply a cog in the world of retailing, I lost all interest in being a stockbroker.
Are all stockbrokers snake oil salesmen? Nope. Some have figured out how to maintain their integrity and put their clients first, even if it means being hassled by the sales manager. But, if your broker is new and works for a firm that advertises a lot on TV, odds are he's a salesman -- not an investment advisor. Might be the smartest, nicest kid in the world -- but, still a salesman.
When he calls with a very special deal for a very special client -- 500 shares of Yelp! -- it's because he's been told by his sales manager it's a special opportunity. It's special because institutional investors won't touch it with a ten foot pole. And, the only reason [insert bulge bracket name here] was hired as an underwriter is because they happen to have thousands of other salesmen whose clients trust them when they call with a special deal. That means more money for the sellers. Period.
In this greater fool world in which we invest, it's entirely possible Yelp will make a lot of investors a lot of money. But, remember when your broker calls -- or when you see a politician or TV talking head doing their part to prop up the market -- the only ones sure to profit are the stock's sellers and the brokerage firms that do their bidding.