For many professional athletes the world of private wealth management has proven to be a ruthless jungle preying to dish out miserable consequence. Many examples exist of athletes being exploited out of their wealth by predators arriving at their doorstep with impeccable timing disguised in proverbial sheep’s clothing. This article makes no mention of specifics associated with any highly unfortunate situations. Rather, it sets out to provide athletes with their own roadmap that can greatly decrease the likelihood of their wealth being misappropriated. This empowerment is gained through education and a desire by the athlete not to be blindly dependent on others when it comes to the selection of their investment professionals.
Recognizing Blind Faith Syndrome (BFS)
Many athletes are faced with serious financial stress at some point during their playing careers while others encounter it following their retirement. In most cases, these tragedies are not the result of taking on an excessive amount of speculative risk. Rather, the preponderance of misfortune is the result of athletes not having the time or the desire to oversee their own wealth manager selection process. Many of the victims simply prefer to focus on their craft and delegate the oversight of their wealth to certain people within their entourage. We term this kind of trust as The Blind Faith Syndrome or BFS.
The competition to become one of very few sports professionals anywhere in the world requires an incredible amount of dedication in the form of performances (i.e. games), practices and conditioning. At some point talented athletes capture the attention of certain interested parties vying to become a fixture in the athlete’s trusted entourage – his very own “circle of trust”. Though the specifics around the plot and cast of characters may differ, what is often comparable is how athletes make themselves vulnerable to becoming subjected to criminal wrongdoing simply because they let down their guard. In many cases participants in the “circle of trust” can exude extraordinary influence over athlete wealth management decisions and they include (but are certainly not limited to):
- Family members
- Friends and teammates
- Asset managers, agents; accounting, legal and banking professionals
- Club management (including coaches)
- Federation, league, players’ and alumni association
In many unfortunate cases it is the greed of certain members of the “circle” that leads to violation. Once the offense is discovered the athlete is left hoodwinked for making the delegation (i.e. BFS), which was done in the first place to allow him to focus on achieving his ambitions within a very competitive profession. When considering the multiple sources of possible deception that can arise from the “circle”, it becomes a shell game to figure out who may be tempted to put their hand in the cookie jar. With the benefit of this perspective, it comes as no surprise to learn that several headlines exist that make reference to athletes facing personal financial calamity.
The antidote to quash BFS gets down to the basics: athletes need to self-empower by means of gaining knowledge about how to successfully direct their own wealth management selection process. This does not mean they need to fast-track themselves towards becoming the next Warren Buffett (no one has ever come close to achieving the investment acumen of the Oracle of Omaha). The fact of the matter is that “nobody cares more about your money than you do”. Just as athletes dedicate themselves to their trade, so too must they similarly commit to ensuring that their wealth is in the very best of hands. Rather than blindly depend on others to select managers on their behalf, the athlete should quarterback his own selection process from a list of investment managers that he has assembled. Once in the driver’s seat the risk of malfeasance is greatly reduced simply by virtue of following a disciplined process.
Quashing BFS by Taking Charge
When one takes charge of their life it can become a cathartic experience. Within this spirit we are propagating that athletes transition their investment manager selection from one that is based on full « circle » dependence to one that is fully independent – a 180-degree shift! The proposed selection process is highly methodical as outlined below:
- Regulator Background Check – The athlete investor should perform background verification on the investment manager in addition to his associated firm. The check can be completed through internet searches (i.e. press releases etc.) in addition to the following hyperlinks:
- Professional Experience – Wisdom comes with experience. Not to say that young finance professionals are under-qualified. Rather, with a goal of reducing risk to the athlete, the more experience that the manager has the better. At a minimum, ten years of professional wealth management experience should be sought because it would reflect the gained familiarity of servicing clients for at least one full business cycle.
- Credentials – The first component of the selection process is to ensure that the investment professional has outstanding credentials aside from the required registrations. First and foremost credentials represent a commitment to excellence through the dedication to follow rigorous study. Athletes should ensure that their investment professional have at a minimum:
- An undergraduate university degree, and;
- The Chartered Financial Analyst designation (a globally renown, finance industry distinction from the CFA Institute of Charlottesville, Virginia) where all members have to abide by the highest standards of its Code of Conduct.
- Other notable globally recognized programs that reflect a dedication include: Master’s in Business Administration (MBA), Chartered Alternative Investment Analyst (CAIA), Chartered Market Technician (CMT), Financial Risk Manager (FRM), Certificate in Investment Performance Measurement (CIPM) and Professional Risk Manager (PRM). All of these programs have in common a rigorous examination process, high ethical standards along with a high level of recognition for best practices within the global finance industry.
- First Meeting – The first meeting provides the investment professional with the opportunity to learn about the athlete’s unique financial circumstance through a series of related questions. Through this process the manager should form an opinion about the athlete’s tolerance for risk and return. If the manager fails to ask these questions, there is simply no reason to be open to a second meeting – this is the wrong person for you! However, should the manager fulfill his duty of getting to know his client (i.e. Know Your Client or « KYC ») then it is incumbent upon the athlete to be prepared to request or inquire about the following:
- Client Statement: Actual client statements with the client’s name completely removed. These reports should include 1-year, 3-year, 5-year and 10-year portfolio returns and be clearly compared against the relative performance of the correct composite (i.e. benchmark). Moreover, the rationale behind the selection of the composite needs to be clearly justified in order to avoid issues of apples to oranges comparisons.
- Fees: The athlete needs to dive head first with a desire to fully comprehend all of the fees (i.e. both disclosed and undisclosed) that he will be required to pay as compensation for wealth management services. He should ask the manager to provide him with complete fee transparency. As well, the athlete should eliminate any manager from his selection process who acts in a manner that is less than forthcoming about fees. If one cannot trust the manager to provide a clear and accurate upfront account of his fee structure, it is unlikely that integrity will shine through at any time in the future. When it comes to fees the athlete needs to be armed with the following:
- Management Fee: This is the investment manager’s compensation for managing client wealth, be it through an investment fund or on a segregated account basis. The fee is compensation for providing services such as: selecting securities, managing risk through asset mix and the production of material related to updates of holdings and performance. Fee structures can vary from firm to firm and relative to the complexity of the of the investment strategy adopted. Furthermore, the greater the size of wealth usually correlates with a lower percentage fee. Other fee schedule variations can exist and the athlete needs to keep on the topic of fees until the schedule is clear in his mind. Our previous article titled What Every High Net Worth Investor Needs to Know (November 20, 2014) made the point that “the investment management industry tries to minimize all discussion around fees as much as possible because it is in its interest to do so”.
- Custodian Fee: This is charged by a financial institution that holds customers’ securities for safekeeping in order to diminish the risk of misappropriation. A custodian holds securities and other assets in electronic or physical form, and they tend to be large, reputable firms. For reference the top four custodians in 2015 were: The Bank of New York Mellon, State Street Bank and Trust Company, J.P. Morgan Chase and Citigroup.[i] Examples of what can go wrong when questions around safekeeping are not properly addressed are profound. Athletes should go to great lengths to establish who is responsible for the custody and safekeeping of their wealth. As well, they should avoid going with any manager whose services or partners in these areas appear suspect. The unravelling of Ponzi Schemes (and other scams) typically show up in times of recession when the economy takes a turn for the worse. The following represent examples of fundamental breaches of trust:
- Bernard Madoff: His name has become the epitome of the dangers resulting from BFS. The genius behind the scheme was how both affluent and institutional investors were so eager to blindly hand over their wealth due to the illusion he masterminded of exclusivity. He was well-known and additionally revered for once being the Chairman of NASDAQ in addition to a key innovator in the emergence of electronic trading. Ultimately, it was his apparent pedigree that blinded his victims and he was ultimately found to be running the largest Ponzi scheme ever uncovered of some $50 billion[i]. His success was predicated on his shrewd recognition of what investors wanted: constant, steady returns of close to +1% per month no matter how the overall equity markets performed. His aura grew to magical proportions with most clients viewing their investments with Madoff as the safest part of their managed wealth portfolio. When it all came crumbling down in 2008, the world was dumbfounded to learn that in fact Madoff had never bought or sold a single security. Rather, he preyed on his victims’ sense of trust in order to fund his extravagant lifestyle. He operated the charade by fraudulently creating fictitious statements and trading slips, all the while depositing investor money into his own bank account. He was able to fool so many for years because he passed all fictitious trades through his broker-dealer operation. As such, he was able to generate whatever trade tickets he wanted. All the while, investors thought their money was being kept with the fund they engaged to invest in or with a bank repository. The Madoff case illustrates the importance for athletes to ask where their assets are being held and to make to necessary follow-up on their own. Anything other than an exact answer is reason enough to walk out.
- Earl Jones: Mr. Jones was a classic swindler that knew his way around the banking system. His scam was conducted by using large Canadian banks as custodian. He would deposit client wealth into an account called “Earl Jones In Trust”. He would the use the account as his very own piggy bank to finance his lifestyle. The scheme was one tenth the size of Madoff’s ($50 million) and lasted 20 years but crumbled in 2009[ii]. Ultimately, he never invested any of the clients’ money. To make matters even more painful, it was confirmed that he was not even registered as a certified financial planner. The Jones scam would never had grown to what it became had investors simply took a couple of minutes to ensure that Mr. Jones’ registrations were in good standing. Upon learning that he did not even have a registration with the proper authorities to practice, this would have constituted a large enough red flag to cease discussions with the manager. The sad fact in the Jones case was that the regulator was not notified until after the scam became public, a time when there was not much they could do to assist. Much like with Madoff, Jones manufactured fictitious statements and false rates of return. He forged signatures when convenient and was so trusted that in many cases even had Power of Attorney over his clients’ wealth. Many viewed him as caring and even closer to his clients than they were to certain members of their own families. Truly evil stuff!
- Mark Dreier: Mr. Dreier oversaw a $400 million Ponzi scheme. Known as a highly reputed Wall Street Lawyer, he was ultimately arrested in Toronto for impersonating an officer of the Ontario Teachers’ Pension Plan in a meeting with a hedge fund manager looking to lend $33 million in a short-term, high-yield investment[iii]. In all his illegal dealings money would go to Mr. Dreier rather than to the person he claimed to represent. One deal was worth as much as $100 million. Over the years he impersonated others including a representative of a former client – a real estate developer. Again he sought to borrow funds from the hedge fund community in exchange for high-yield, short term promissory notes with attractive interest rates guaranteeing between 7-12%. The rationale for the overall scam was to fund a very lavish lifestyle in order to create the illusion that he was a billionaire. He wanted to capture attention and in so doing increase business for his law firm for which he was sole owner. In the aftermath of the scandal Mr. Dreier was more than forthcoming in stating that « the more you showed you did not need money, the more you were able to attract money. » As with the two previous cases, Mr. Dreier fabricated phony financial information and statements, phony audits and forged documents. To keep the scheme working he had to sell more notes to new investors when old promissory notes matured. This case is an illustration how some people even lie about the entity they represent. The takeaway should be the importance of performing proper background checks.
- Financial Planning Fees: Wealth management firms, for the most part, make their money from the sale of investment products. Most typically they also provide the complimentary service of a Financial Planner, whose role it is to model whether the athlete is capable of meeting his long-term lifestyle requirements. Through questioning the Financial Planner gathers information about risk/return objectives, fiscal circumstance and projected lifestyle needs. Should the athlete not be offered this service, he should consider eliminating the manager from his prospect list. As a final point, the athlete should make certain to ask whether any incremental fees are associated with financial planning services.
- Tax Deductible: The athlete should ask the manager and the financial planner about which fees are tax deductible and which are not. Hopefully, the manager and planner answer something to the effect that they are not tax specialists and therefore suggest a discussion of this issue with an accountant or tax advisor. If they do tell you this then they are indeed acting prudently.
- What About Hidden Fees?: There exist ways that investment managers can levy fees that are over and above management and custodian fees, without their clients’ knowledge. Athletes that ask the right questions are in a position to understand what these fees are. The table below provides an illustration and is inspired by an actual investor seeking to preserve his capital while generating a steady stream of income. The 65% fixed income/30% equity/5% other is certainly in line with the investor’s 4% return and low-risk objectives. However, one may question the appropriateness to own an illiquid Commodity Linked Note structured product (i.e. “other”) tied to volatile commodity prices. When reading the fine print of the Note’s prospectus it states that managers receive a one-time 1.25% up-front sales fee. The sad truth is that investors typically have no idea what a structured product is, nor are they aware of what a prospectus is and where it can be located. Though they should, some managers are not so forthcoming in making the prospectus available. For instance, when one begins to analyze the numbers in the table one can see the financial benefit to the manager for duping his clients. For instance, assume the manager has 50 clients all with $1 million in assets to invest. By simply allocating 5% of each client’s wealth (or $50,000 each) the table illustrates how this would put $31,250 in the manager’s pocket on an up-front basis. Reading the fine print would expose the potential for this type of unethical behavior.First Meeting: The first meeting provides the investment professional with the opportunity to learn about the athlete’s unique financial circumstance through a series of related questions. Through this process the manager should form an opinion about the athlete’s tolerance for risk and return. If the manager fails to ask these questions, there is simply no reason to be open to a second meeting – this is the wrong person for you! However, should the manager fulfill his duty of getting to know his client (i.e. Know Your Client or « KYC ») then it is incumbent upon the athlete to be prepared to request or inquire about the following:
- Transfer Fees: When it comes to wealth management, investment firms go out of their way to ensure the transfer of funds into their possession. Prior to any final decision, the athlete should enquire what the all-encompassing fees would be should he wish to transfer either “in-cash” (redeem securities) or “in-kind” (do not redeem securities). Athletes looking to transfer their wealth from one firm to another would be prudent to ask the transfer-in firm whether all transfer fees would be absorbed by the new firm. Granular specifics around whether this includes costs associated with redeeming certain securities and closing accounts should also be discussed in detail.
- Service: When it comes to selecting an investment manager, assume nothing. In the author’s twenty plus years of industry experience he has witnessed investment managers’ with a couple of hundred clients while claiming to make all investment decisions, including security selection, asset mix and account monitoring. At the same time, he preaches that he visits with his clients at least annually and as often as quarterly. We have the adamant belief that investment professionals cannot successfully performing the two tasks of servicing their clients while making sound investment decisions – there is simply too much work to be done to do both well. At the end of the day, unless this described investment professional is frequently spotted flying around wearing an « S » on his chest, it his highly unlikely that he can execute all that of the above himself, and certainly not sustainably. To properly manage wealth, the role of client servicing and investment decision-making is best structured when it is separated. Unless the manager’s number of clients is very low and he has no desire to prospect for new ones, it is nearly impossible for him to make the previous claims and not have something fall through the cracks. Simply, either client servicing, investment decision-making or both are guaranteed to suffer to some degree. During the first meeting the athlete should question the investment manager about how many clients he has and how many clients that he personally services? The athlete need also inquire about the frequency of face-to-face or telephone contact that he has with his clients. If when doing this exercise the arithmetic appears impractical it probably because it is. During this part of the process make certain it is clear who provides the client servicing. If it is someone else that works closely with the manager, ask to meet with that person to ensure that you feel comfortable. The last thing you want is a surprise service call from someone you have never met. As a client, the athlete should be entitled to anywhere between one and four service visits and/or phone calls per year. In addition, during the early days with the manager the athlete should be able to request more frequent contact in order to gain comfort with the investment process. As an aside, questioning around the time-frame that the athlete’s wealth will be deployed into the manager’s investment strategy is a totally legitimate request and should be made clear. It is far more risky to invest in a strategy all in one shot vis-a-vis investing in four or five separate tranches. The dollar-cost averaging effect with more frequent trades is far and away a better risk-adjusted method, and this should be established before any account opening documents are signed. When all is said and done, be certain you understand how often you will be contacted as a service courtesy during the year and by whom.
- Types of Investments: In recent years, there have been significant developments in financial innovations some of which are even marketed to retail investors including athletes. These products are often presented as superior and can be quite confusing to fully grasp. Some less than desirable managers may suggest to athletes that their level of wealth places them in exclusivity among the very few that have access to these so-called « leading-edge securities ». Though financial innovations can be varied, in most cases however they share the common factor of being highly lucrative for the selling agent, a point made quite clear in the previous example regarding structured products. Unless the athlete considers himself to be a highly sophisticated and knowledgeable investor, he may want to ensure that the majority of his wealth is invested through the manager by using traditional securities. In other words, the more « plain vanilla » the better. Traditional investments have three basic classes: cash, fixed income (lending) and stocks (ownership). Alternative (non-traditional) investments should make up 5% and no more than 10% of a non-sophisticated investor’s managed wealth. These investments include but are not limited to: hedge funds, private equity including infrastructure, mezzanine financing and commodities. The benefit of having a small percentage of overall managed wealth in alternatives is that at such low levels they provide the benefit of adding diversification thus reducing the athlete’s overall risk exposure while maintaining the ability to achieve the same targeted return. The athlete should be ready to ask the manager about whether the discussed alternatives are fraught with locked-in clauses which are time periods when they cannot be redeemed (i.e. liquidated).
- Conflict of Interest: When it comes to investment management, being alert for conflicts of interest is imperative. This is because each athlete has the right to know that (1) they are being fairly treated and (2) they are presented with the best wealth management option. With regards to Fair Treatment, the athlete should ask the manager whether he sits on any foundation investment committees. This is relevant to the athlete because foundations can be known to be managed by the very people that sit on their investment committee who also happen to make donations. As a client, you have the right to understand whether the manager is tainted by such a conflict because this opens up the possibility that the foundation could receive preferential trading treatment over the manager’s other clients. Another situation that athletes should be very cautious of is when the investment manager’s service is under their agent’s firm offering. Although convenient, this one-stop shop structure is conflicting. Earning fees (directly or through referral) from the management of the athlete’s wealth, whose source is related to contracts the agent himself was instrumental in negotiating, represents double-dipping on fees. Moreover, such a practice makes one question whether the athlete is being served by the very best investment professional or simply by the one that is most convenient for his agent.
- Strategy: During the first meeting the athlete should get the manager to discuss one or two types of investment strategies that they manage. They should provide the athlete with the name of the strategy along with its asset mix (i.e. % in cash/bonds/stocks) and the typical portfolio turnover as it could influence the athlete’s capital gains tax. The goal with this line of questioning is to determine whether the manager has knowledge of his own product offering. Understanding the balance between direct ownership and fund ownership is important, with the former being more cost and tax effective.
- Working closely with accountant: The athlete’s accountant needs to have a collaborative working relationship with the investment manager and financial planner. Athletes can have complex tax circumstances and may need to request and receive information that can influence tax filings with the necessary authorities. Therefore, the athlete needs to inquire what the process is to ensure that his accountant can have a highly accommodative relationship with the manager.
- Second Meeting – Once satisfied with answers from the first meeting, a second meeting should be scheduled. It is during the second meeting that the manager should provide the athlete with an investment proposal. A very good proposal is one where is is clearly evident that the manager listened and fully grasped the athlete’s unique circumstances including his comfort for risk and his required return. The athlete’s complete profile, including lifestyle needs, gifting and philanthropic objectives should be put into print. In addition, a comprehensive financial plan completed by the Financial Planner should be completed incorporating factors such as the forecasted returns, expenses and all tax implications. As well, a proposed asset mix in addition to specific investments should be described. The athlete should conduct an investigation around whether the proposed portfolio actually achieved the types of 1, 3, 5 and 10 year returns that the financial plan assumes. Likewise, the 1, 3, 5 and 10 year returns of the related benchmarks should be analyzed with similar purpose. Each individual athlete is different and so it may end up being that at the conclusion of the second meeting that a decision to select the manager is deferred – this is more than okay! Each athlete must make their own decision only when they have conviction. The most important takeaway is that the athlete must remain disciplined and committed to running the manager selection process. Should by chance the athlete feel pressured by the manager to make a decision or uncomfortable in any way, these constitute legitimate reasons to remove the prospective manager from the short list. The rationale being that if the manager makes the athlete feel this way prior to becoming a client, simply imagine how things will roll once he takes hold of the management of his wealth.
Financial malfeasance towards professional athletes has been present for decades. In fact, this pandemic has only gotten worse. To say the very least: change is long overdue. By no means are we advocating that athletes eliminate their « circle of trust » for fear of being swindled. In fact, the vast majority of agents have their clients’ best interests at heart. The same can be said for lawyers, accountants, leagues, federations, associations, teams, players associations, alumni organizations, family, friends, coaches and teammates. Rather, we recommend that athletes take on certain sensitive tasks themselves as a way of minimizing malfeasance risk.
The days of showing up to training camp in poor shape are long gone – times have changed! Similarly, athletes can no longer delegate their wealth manager selection process to others. Suzy Kassem once said « there is nothing that threatens a corrupt system more than a free mind. » Therefore, when it comes to manager selection we advocate free, independent thinking as a means of fostering athlete empowerment. There is no magic formula here: it comes down to the commitment to work hard with the purpose to gain knowledge. This article provides the basics for the athlete to conduct his own manager selection process. It is now up to the athlete to dedicate himself so he can enter the jungle of wealth management armed and ready for the first and second meeting. After all, it is the athlete’s wealth and no one else’s. It behoves him to perform his own homework.
[i] No One Would Listen: A True Financial Thriller Hardcover – Mar 1 2010; Harry Markopolos; Wiley 1 edition.
[ii] Earl Jones, Quebec Ponzi-scheme fraudster, gets out of prison – http://www.cbc.ca/news/canada/montreal/earl-jones-quebec-ponzi-scheme-fraudster-gets-out-of-prison-1.2580221; CBC News, Mar 20, 2014.
[iii] Diary of a Scam: The Fall of Power Attorney Marc Dreier – http://www.cnbc.com/id/42572204; CNBC while Reuters and The Associated Press contributed to this report. Constance Parten, 13 Apr 2011Version PDF