En español | When we watch Leonardo DiCaprio as real-life broker Jordan Belfort in The Wolf of Wall Street, it's easy to think that we'd never fall for the cold-call pitches that Leo and his minions use to lure unwary investors. Sadly, that's not always the case: For too many of us, investing involves suspending logic and common sense. Read on for five of the most glaring examples of unwise investments I've seen in my career as a certified financial planner.
Here's the pitch on these products: "Investing in the stock market is risky. You want some investments that zig when the stock market zags." Examples include long/short equity funds, market-neutral funds, managed-futures funds, nontraditional bond funds, foreign-currency funds and bear market funds. Many are private investments telemarketed from call centers (always a warning sign); others have gone mainstream and are offered through mutual funds sold by brokerage houses and investment advisers.
Often these do indeed deliver performance unrelated to the overall market. Unfortunately, that performance is typically terrible. Morningstar recently reported that the average five-year performance of alternative mutual funds was to lose 2 percent annually. Many of these funds have zero expected return before costs.
Look at it this way: The outcome from gambling your savings in Las Vegas is also unrelated to how the market performs. That doesn't make it a good strategy.
Have you ever been offered a stay at a resort at an incredible price? And all you had to do was spend 90 minutes in a presentation on the resort's interval-ownership program? It goes something like this: At the presentation, you watch a promotional video, tour the property, then get the pitch: For, say, $20,000, you can invest in a lifetime of weeklong vacations. How can you resist?
If you do resist, prepare for a hard sell that takes hours. These people are trained to get you to buy before you have time to do the math. So let's do it now. Your $20,000 translates to more than $1 million per unit if all 52 weeks are sold. But the unit itself may be worth only $200,000. And it's a money pit of recurring fees: The American Resort Development Association says average annual maintenance costs hit $822 in 2012, up 5 percent from 2011. The vast majority of time-share owners can't unload their units for anything approaching what they paid. If you go to SellMyTimeshareNow.com, you'll find more than a thousand time-shares for $1,000 or less. These owners are just looking to get out of the maintenance obligations they purchased. Bottom line: Get a hotel room.
This product, now rebranded as a "fixed indexed annuity" by the insurance industry, is often sold with a promise to link returns to stock market gains, without risk — you don't lose a cent if the market tanks. It's among the most complex financial products I've examined. (Don't confuse it with a traditional immediate annuity, which is a simple and relatively safe way of converting a portion of your savings into retirement income.) Financial planners frequently pitch these at "free educational seminars" held in your favorite restaurant, and some offer an immediate onetime bonus upon your writing a check.
If you read the fine print and use a little common sense, you'll find the guarantees are mostly illusion. How can an insurance company take your money, pay the planner a commission, invest the rest mostly in conservative bonds and still give you market returns without risk? Does it seem more plausible that the thick disclosure documents are there to protect you — or the insurance company?
Private and Non-Traded Real Estate Investment Trusts
Advisers often pitch private REITs as a safe way to get great yields without the volatility of publicly traded REITs. About 90 non-traded REITs raised $73 billion in the last decade, mostly from individual investors. These REITs then buy income-producing real estate. Over the past several years, the largest five raised $26 billion by promising a yield averaging 6.4 percent annually, according to MTS Research Advisors. All but one later lowered their dividends and the estimated value of their share price. By comparison, public REITs (which are sold easily and don't pay commissions) are up 130 percent over the past five years.
The warning signs on private REITs? The so-called high safe returns and the fact that they're illiquid (it's hard to get your money back without a penalty). Any truly attractive financial product would be snapped up by institutional investors and wouldn't require paying commissions to advisers.