By George Runkle (TMFRunkle@aol.com)
December 30, 1997
Several months ago when I was in the United Arab Emirates, I had a conversation with a young Air Force sergeant. We talked about investing, Fooldom, and preparing for the future. He asked me a very pointed question. "Can you get ripped off?" Yes, you can. Of course he wanted to know how to avoid being cheated when he invested, and what kinds of ways his money could be taken from him. Unfortunately, there are a lot of different ways you can lose your money in investing.
Fortunately, you can eliminate a lot of risks by applying the "does it sound too good to be true?" test. If a business that seems a little weird claims it's "the next Microsoft," it's not. Also, let me make this clear: Microsoft and Intel were NEVER penny stocks. Adjusted for splits, it appears their stocks went out for less than the price of a Hershey bar, but they never did. Both companies had a track record before they went public. Most of us have the common sense to know when something is too good to be true.
Where a novice has to be really careful is with other more subtle psychological tricks. One friend of mine is very happy with some mutual funds he's invested in. The broker he bought them from has a really posh office. He was served coffee out of a silver coffee service, and treated to free cookies. How nice. The mutual funds? I don't know how good they were, but he was charged a front end load of 5%. Since load mutual funds don't perform any better than no-load funds, and something like 90% of mutual funds under-perform the market, he paid a lot for those cookies. There is about a 90% chance that funds he invested in will under-perform a silly S&P 500 index fund. If he invested $10,000, he paid $500 for those cookies and coffee. I don't know about other cities, but here in Pittsburgh, you can buy a pretty good dinner for $500, not just cookies and coffee.
Why in the world does a broker need a silver coffee service? Does he make so much on commissions he can spend like that on office furnishings? What kind of coffee services do his customers have? I think that's a more important question. However, the coffee service worked; my friend was impressed and dropped his money there.
My favorite is the laptop computer trick. Insurance salesmen use this one. They ask you a bunch of questions, put in some figures in their handy-dandy laptop, and voila, a printout. This printout shows a bunch of numbers that projects how well you'll do if you invest in an overpriced whole-life policy. Because of the effect of compounding, even a 3% return can look impressive at first glance. The last time I bought a whole life policy, I fell for this. Last year, when the ridiculous premium came due, I pulled out the projection, and ran the numbers through a spreadsheet. The return? About 6%. Worse yet, the policy hadn't made those numbers, it was only a "projection."
What do the laptop and silver coffee service trick have in common? They're to make you think that the salesman, broker, advisor, account executive, or whatever he or she calls him or herself, is much Wiser and sophisticated than you. The idea is to lend an air of authority to what they say. Would you dare question the advice of a broker that has spent so much on mere office furnishings? He or she must be very sophisticated and knowledgeable. I'll bet you just have a plastic Mr. Coffee where you work. What about that computer? How could you question the results of a computer? A computer is what NASA used to send astronauts to the Moon, so it must be right. It's like Seen On TV!
In Fooldom, we encourage you to make your own decisions. It seems a little radical at first to choose your investments yourself. Don't you need professional help? Maybe, but for investing, we Fools do that ourselves. Your "financial professional" may disagree, but you have to see his or her point. Silver coffee services are expensive, and you can't get one at the neighborhood Office Depot. They need your money, but you don't need to give it to them. Yes, you can be ripped off, but you don't have to be.