Most of the institutional buyers and sellers have their own markets, called Dark Pools.  Sound Ominous?  It is. (hat tip: @businessinsider)

Dark pools from Marketplace on Vimeo.

More from iheartwallstreet.com 

It’s a sneak peek: They’re testing new software. (47 seconds, cute)

Think about it.  Every bust, every scandal: Technology is their undoing. That’s why bankers hate technology.  No–that’s not the reason bankers hate technology, I kid.  

Why? What’s the biggest issue secular trend staring the industry in the face today? Cut waste and inefficiency.  And, you see? Technology is quite capable of solving that problem. But it is in these inefficiencies of information flow and waste that bankers grow fat. They live in the margins of friction.

The truth of the matter is, when these Schwab commercials came out (below), Wall Street laughed. Afterall, he’d started out marketing newsletters. They were on ‘the inside’, no competition.
 

It was 1974 and the investment world was changing. Legislation had just deregulated commissions and of course, that changed the face of finance.

Computers were beginning to come on-line. Within a few years? Mainstream. And within enterprises all over the world, including the stock exchanges. (read: goodnight trading)

It was technology that was creating the ‘real change’. It started with being able to pick up a phone, call a computer,  and put in an order directly into the exchange. Read: No Broker, No Trader. And so, it was light’s out for the business as they’d known it: trading in huge spreads between buyer and seller.  Living fat off the land. 

Now. Philosophically, banks are nothing more than a manifestation of a bunch of people. And, in, this group of people there is arguably, even probably, a desire to survive.  And this grouped ‘desire’ lives, thrives,survives,or dies within the framework we give them: taxes, laws, &ethics.  We, as a society, grant them their role. To be certain, there are also generational advantages, but most of the wealthiest people are of course, self-made. We create the bankers.

Bankers are a special breed. But they can get lazy.  And to be certain, we’ve bred them to not suffer the ills of a plebian life.

So what happens when we take their money? They seek survival in a different profit center: InitialPublicOfferings. (…And didn’t that turned out lovely.)

And then we can roll the tape. From there: we scampered to Loose Lending, which then shotgunned into bizzaro Financial Engineering. Rocket fuel for the entire eco-system.  And all within a framework we set up. And, now the genie is out of the bottle.  There is no going back. It is a new interconnected world we live in. And this, to me, is incredibly exciting…

And so, why: why, this constant shuffle? Why do the banks keep moving the ball? Well; bankers keep inventing new stuff to sell because, they don’t really ‘make’ anything.

Technology has yet to fully integrate into the banking model.  It will though.  Sharespost is a perfect example.

You see, bankers exist in the cracks of millions of transactions. They are Friction. The friction of the transaction, is their life blood.  They need it.  And you don’t.  No one in their right mind would.

Technology removes this friction especially from an intellectually based transaction.  It’s not like we have to ship you a car or anything.  A couple of emails and a phone call, things get done.  

Now imagine all of that overhead sitting in those offices….It’s sad but true.  Banking is the one industry that hasn’t really seen the change technology is going to bring.

Most people continue to focus on the wrong side of the ledger when it comes to their finances.

The truth is, even with advisors, most people typically underperform the stock market. And frankly, there’s probably a glut of 70-80% too many people in this industry.  No Lie.  It’s the last bastion of how the internet changes the world. Money 2.0. 

Of course, to beat the market is truly an arbitrary benchmark. The true benchmark for success is your personal financial success or failure, but that’s a different post.  So, you hire experts to manage your money thinking this is what will make you successful. And now, most of the energy is spent on how you invest, vs. how you spend and save.

And for all of this guidance and expertise on how to invest, the numbers are telling. According to Dalbar, an industry research firm, over the past 20 years investors in stock mutual funds have underperformed the S&P500 by 6.5% a year.  (8.35% vs. 1.37%.)  Investors did even worse in bonds, underperforming the Barclay’s Aggregate by 6.7% a year (7.43% vs. 0.77%.).  That return doesn’t even keep up with inflation (historically assumed to be 3%–certainly lower lately though). 

This is reality, let it sink in.  You are probably one of these people. Sadly, this story is nothing new. It’s been going on for years, but we keep tackling the same pursuit, higher returns.  Because this is the magic bullet, right?  

We are inundated with ads for better mutual funds with more stars, or sold on the idea that Advisors know about the better money managers.  We do this instead of really delving into how you manage your day-to-day spending and saving.  

And Why? Because 1) Your advisor doesn’t get paid to help you save money or optimize your day-to-day finances and 2)if your advisor told you most of their activity (which is profitable for the firm) is hurting you rather than helping–you’d fire them.  And that my friends is the heart of issue with today’s advice givers, they’d prefer to sell you on performance and the promise of high returns, rather than what you need. 

In fact, when I told an old colleague of my pursuits to deal in this reality– he said, "Scotty, if you do that–why do clients need you?…"

But here’s a simple illustration…(click to enlarge).

 

Assume you were the smart money in the Gravy Years (1985-2008) and invested like Harvard and Yale. You’d outperform the market (S&P 500) by about 3-4% a year.  You’d outperform the conservative 60/40 (60% Stocks/40% Bonds) by .5% more.  But look at your Worst Years, clearly Harvard and Yale look really smart, BUT even the 60/40 portfolio isn’t looking too bad.  The point of this exercise isn’t performance vs. risk (another post), it’s an exercise in the big picture….

 

The ’smart money’ (which most of the investing public clearly is not) doubles the money over the course of your whole investing life (45 year) about 9 times, whereas the market and moderate (60/40) approach double about 8 times.  So, you have to ask yourself a few questions when you see that hot portfolio from your broker.  

1. how many more times is this change going to add to my chance of doubling my money?  
2. How much more risk am I taking for those extra doubles? 
3. Now do this….Take all of the money you have today and double it 8 times, now double it 9 times.  
4. Is that 9th double really making the difference?

It’s the pile of cash that you are dealing with that makes the big difference. As such, I’d argue, your day-to-day interaction with money is a much more powerful fulcrum.  

Be Honest–How much time and energy do you spend on how much you save vs. how your investments are doing?  If you are like most, you are operating almost completely on the wrong side of the ledger.  And frankly, it’s the difference between my successful clients and the ones who make $500k a year and are still looking for the next pay day. Trust me, we’ve got them on a plan now. But others, we don’t.  Not everyone uses our planning service (yikes). 

Here’s a small but illustrative example: assume you save $2500 a year for 40 years at 11.5% a year.  In a compound calculation (which is flawed because investments don’t compound every year) for point of simplification and illustration, you’d be look at numbers in the neighborhood below—

Now, what’s more powerful?  The extra double of your money (and all the extra risk, and probable failure) OR the pile of cash you throw into the mix? 

And the here’s the super awesome part.  Your everyday effort to accumulate wealth is more controllable, more stable. And frankly, it’s something everyone can achieve vs. being & beating the truly smart money. Think about that the next time you want to do something fancy in your portfolio. Now, think about how much money you are leaking….

Of course, this exercise it’s not nearly as exciting; what would CNBC talk about? Something useful? (i kid)

And mostly sadly, it’s not what your current Advisor gets paid to help you with.  Unless of course, you’re at GDP…. 

The truth of the matter is, most of the people in my industry are sales monkeys. I should know, to some that’s what I may seem like.  

I worked for one of the ‘majors’. I spent almost 10 years in the industry. I’ve attended all of the conferences. And I have seen all of the types of people we label a success and failure in this business.  

A couple of my favorites are still the rich boy or girl playing banker with their family and friend’s money.  Then there’s the hard nose, pushy person who argues their way into your wallet, gotta love ‘the street’ in them.  And the truth is, we know this.  Yet, we perpetuate the cycle. Over, and over, and over.

We trick ourselves into thinking that if "so and so" is working at "such and such", then ‘this is what we should do’– this is how it works.   The media perpetuates it with guru worship, because you watch. Hollywood aids in it, with sexy voice overs ’cause it pays the bills. Politicians live by it because it’s easier. And if you really took the time to look, you’d notice– Wall Street is exactly like Amway; top heavy. 

The thing is, we know from behavioral science, the human condition likes to forget. Otherwise, we cannot be so brain-dead to think another $20 million in an ad campaign is going to make us forget.  How many times have we been burned, by the very people who feed us our information? Oh, no…

After much thought and personal debate about where to host such an endeavour to change this lemming movement, I’m starting a new series here at GDP.  

Everything your broker won’t tell you. Are you ready?

I recently read Felix Salmon’s article on buy-side vs. sell side and it reminded me of a rant I’ve been developing and harboring for some time. Just another aspect of why Wall Street is broken.

Here’s a little 101, for those that don’t know.  Trading securities for cash or other securities (i.e., facilitating transactions, market-making), or the promotion of securities (i.e., underwriting, research, etc.) is referred to as the "sell side". Dealing with the pension funds, mutual funds, hedge funds, and the investing public who consume the products and services of the sell side are known as the ‘buy-side.’ Many firms have both buy and sell side components in order to maximize their return on investment.

Here’s the rub.  Your average advisor/broker works in a firm that makes HUGE, I mean, insane margins on their ’sell side’ activity.  We’ve seen this truth with their ridonkulous exhibits of privilege, as the kids would say.

So, where do you fit in Mr. and Mrs. Client?

Well, you do not have more money than mutual funds, or Wall Street’s perennial favorite, the hedge fund client. And it’s sad when I see one of the usual suspects (with Lynch or BS in their name) bragging about how their trading desk is the biggest in the world, because that, often stretched truth, means absolutely nothing to most of their client base in terms of benefit. I cringe when I am told about some hot bond or secondary a person bought from their broker. Because here’s the reality: Almost every deal, every bond, every issue you see Mr. and Mrs. Retail–has been passed over by insurance companies, corporate clients, private equity, hedge funds, mutual funds, everybody…before it came to you.

Today’s ‘Financial Industrial Complex’ is about distribution, plain and simple.  Oh sure, you probably have a bevvy of third party managers in your portfolio to give you the idea of arms-length dealing, but even those managers are part of the game.  Remember those third party managers also buy IPOs and secondaries–and a lot more than you. 

Those third party managers also give the Wall Street firms trading revenue every time they switch your portfolio.  And all of that activity: Amounts to a mountain more than your fee (which is still too high).

All I’m offering is the truth, nothing more…

You are the quagmire. The average household is a marsh.  Your job is to stay in the market, to keep buying what they are selling (even if it’s a sell rating).  Your job is to take concentrated risk and played out trades (from their bigger, better clients or even their own inventory) and wash it out over millions of accounts so no one gets hurt (too much). The system’s PH balance is maintained.

 It’s a game changer, once you open your eyes. Focusing solely on wealth management or solely on investment banking is where the business should arguably return, back to their roots. Brokers are realizing it.  Customers are realizing it.  And someday Wall Street will have to realize it, as their market share continues to dwindle.