complex financial products

Hedge Funds Charge Through the Backdoor with Alt Mutual Funds

Well, it looks like the masters of the universe on Wall Street haven’t quite learned their lesson… Are we surprised? Given the historic proportions of the impact and damages inflicted by the truly epic financial collapse of 2008, um, yeah…!  

Alt Mutual Funds Take Up Where Derivatives Left Off

Creative Commons by CollegeDegrees360

Creative Commons by CollegeDegrees360

For most of us ordinary mortals, all the hand-wringing that followed the collapse of our banking and mortgage system over too-complex financial products like derivatives and collateralized debt is still fairly fresh in our minds. Unfortunately, the allure of complexity and the money that tends to flock in its direction appears irresistible to bankers and ordinary investors alike. Enter the new and almost impenetrable darling of the investment world: alternative mutual funds.

According to Morningstar, the leading independent investment research agency, billions of dollars have recently found their way into these funds in effort to further diversify portfolios against market volatility. Currently, total assets in alt mutual funds hovers at around $234 billion. Just this year, around 55 new alt funds were introduced to market, bringing the total to 400 or so.

Not Your Grandfather's Mutual Fund

Alternative mutual funds may share the same last part of the name of traditional “mutual funds,” but don’t be deceived: these are not your grandfather’s (or even your father’s) mutual funds. Alt funds contain far more exotic strategies and asset mixes than their traditional counterparts, including hedging and leveraging through derivatives and short-selling. And while a thoughtful and well-balanced mix of holdings and strategies may sound like just the thing to counteract market volatility, these funds may conceal risks and fees that the unsophisticated and sophisticated investors alike may not be fully aware of. For more on alt mutual funds, click here.

Swimming with the Sharks

Creative Commons by Hermanus Backpackers

Creative Commons by Hermanus Backpackers

 

At any rate, it seems that part of the increasing popularity of alt funds lies in the entrance of certain massive hedge funds--entrance through the back door, that is--into the retail investment market. It was only a matter of time before these sharks figured out a way to bait ordinary investors. But that doesn’t change the fact that the products they are pushing out to market are hardly suitable for most investors--and barely understood by even the most well-versed professional investment advisors. There’s a reason why only accredited investors are permitted by law to invest in hedge funds: they’re unregulated and very, very risky. Thanks to alt mutual funds, however, it seems that hedge funds have found a nifty way out of their gilded regulatory ghetto. And while every product has its use, we reserve the right to worry over the arrival of yet another asset class that the vast majority of investors can scarcely grasp--and so soon after horrific consequences of the last incarnation of greed-meets-complexity put all in such a very deep, very dark hole.

If you or anyone you know has been the victim of broker misconduct or investment fraud, please contact us immediately for a free consultation at 1-855-462-3330.

Beware of Non-traditional ETFs

SInce The Green Firm is currently pursuing a case involving a particularly egregious abuse of non-traditional ETFs, we thought it might be useful to revisit these exotic investment products and explain why they tend to be misunderstood and misused by stock brokers more accustomed to a traditional "buy-and-hold" strategy. Traditional investing principles urge brokers to "buy low and sell high." Often this means holding onto a specific financial product or stock for a long period of time while waiting for it to arrive at its "true," projected, or peak value, at which point the product is sold before it has a chance to decline. Generally, this type of traditional "value" investing is stable, low risk and low return; it also happens to be suitable for customers with a low-risk tolerance. Non-traditional ETFs, on the other, are complex, high-risk financial products that are designed to perform radically differently. According to FINRA's website, leveraged and inverse ETFs "commonly represent an interest in a portfolio of securities that track an underlying benchmark or index [not the stock market as a whole]. A leveraged ETF generally seeks to deliver multiples of the daily performance of the index or benchmark that it tracks. An inverse ETF generally seeks to deliver the opposite of the daily performance of the index or benchmark that it tracks. Inverse ETFs often are marketed as a way for investors to profit from, or at least hedge their exposure to, downward-moving markets. Some ETFs are both inverse and leveraged, meaning that they seek a return that is a multiple of the inverse performance of the underlying index." One should note that inverse ETFs are particularly tricky, since they are hedging instruments, and thus are intended to perform well in volatile markets. While a financial advisor may describe these non-traditional ETFs as a product that would be suitable in a down market, given the fact that these products "reset" daily (meaning they are designed to meet their objectives on a daily basis), even in a declining market these non-traditional ETFs should not be held for longer than one trading session. Here are some helpful examples from FINRA's Regulatory Notice 09-31:

 

FINRA Resolution 09-31


Many an unfortunate customer has lost money due to an uninformed or negligent broker keeping them invested in leveraged and inverse ETFs inappropriately. We have found in our cases that oftentimes the individual financial advisor does not understand the nature or use of non-traditional ETFs, and so are forced to look at the firm they work for in seeking an answer to the question of why they are investing customers in products they themselves have no grasp of. In many cases, branch managers and even the brokerage firms are not nearly familiar enough with these complex products. Clearly, ETFs can be counterintuitive and risky financial products that are not suitable for every investor, nor understood or properly used by every financial advisor or firm. 

 

If you or someone you know has lost money as a result of improper use of non-traditional ETFs, please contact us.