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December 8, 1998

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Subject: Re: Full Service Brokers
Author: TomGardner

Mkf,

I appreciate your appearance here and your very thoughtful note. You make some compelling arguments, and generally, I agree with you. For people who have no time or interest for the subject of saving and investing, professional financial advice makes sense.

The problem is, of course, that the financial industry has done an absolutely horrific job of policing its own. Without the Internet, the average American has very little chance of finding out how professionals are paid, how they are rewarded, what their motivation is, etc.

On the one hand, in a free market, it isn't up to an industry to police itself. The onus is on the individual. On the other hand, having thousands of financial salesmen running around each firm -- some honorable, some borderline, some wholly disreputable -- only works in a closed environment (where individuals have little access to information and little understanding of where they have recourse to file for arbitration and where not to).

"I simply believe that the Internet is going to introduce accountability to the financial industry in a very profound way over the next ten years."

I simply believe that the Internet is going to introduce accountability to the financial industry in a very profound way over the next ten years. In a way that will put *a lot* of the professional "services" of today out of business. I think we'll both agree that anything that's a disservice in the financial industry today should be put out of business.

Given that, I expect the managed fund industry to be rolled over, during the next twenty years (Zweig selling out and Gabelli cashing in seem like powerful early indications to me). And I expect any hidden fees in the financial industry to gradually be exposed.

I do believe that it is the industry's responsibility to show, item by item, what they're charging their clients and how they performance. Cost and performance disclosure, in my book, are key components of a service industry. However, I don't expect the industry to move on these fronts until it is in their very best interests to do so. Given that, I believe the Internet will be a powerful intervening force. As it has been in the car industry already, so too with financial services.

And, regarding mutual funds, until the managed funds get into the ballpark of the index fund in performance (40-50% beating the market, consistently) and price (while charging less than 0.50% per year in fees), I think the managed fund industry will suffer.

"...I've been in the presence of some cool-headed financial folk -- and even they've been attacking fund performance *on a cost-adjusted basis*..."

Obviously, I speak more aggressively on this subject than most. That said, over the past four weeks, I've been in the presence of some cool-headed financial folk -- and even they've been attacking fund performance *on a cost-adjusted basis* (including selling & advertising fees, annual expenses, and the high tax cost of turnover). And have show me that well back into and through the 70s, 80s and 90s, the index fund was consistently the best choice.

Even in their great years, the fund companies were charging so much in fees (as well as learning how to hide fees) that I don't think many investors, once nesting, are going to leave their index fund/spider/diamond perch.

Thanks for your contributions. It certainly is an interesting topic.

Tom Gardner, Fool


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