Scams

Forbes magazine ...

Five Legal Scams

How is it that many Wall Streeters are prosperous at a time when 401(k)s are decimated? Some insiders are, to be sure, losing bonus pay or even looking at a pink slip. But the money management crowd is still doing pretty well for itself, extracting at least $300 billion a year for carving up our meager economic pie.

The Wall Street bag contains, as I count them, five tricks. If you understand them well, you will hesitate before engaging the next high-priced investment genius to pick stocks for you. You might even take the advice we have often offered, that you put a large chunk of your retirement money in low-cost index funds.

Longtime readers of FORBES will see some familiar themes here; a few of the games have been played for decades. I am inspired to revisit the topic after spending some time with Nassim Taleb, the financier-philosopher profiled by Robert Langreth. More than anyone else I have met, Taleb understands the portfolio tricks that turn dumb luck into something that looks like skill.

Taleb does not entirely agree with my taxonomy. Where I see five kinds of mischief, this holistic thinker sees only two: asymmetry and risk hiding. But you need to read Taleb's last two books (Fooled by Randomness and The Black Swan) to understand those concepts. With that caveat, here are the five ways that money managers enrich themselves.

Russian roulette. Say a strategy yields above-average returns for nine years and a catastrophic loss in the tenth. This is a formula for wealth--if you are playing with other people's money. Collect a handsome fee during the good years and then shrug off the tenth.

You could get this profile of wins and losses by insuring levees in New Orleans. On Wall Street you get it selling naked put options, buying junk bonds or operating Long-Term Capital Management. In all these cases, the money manager succeeds by sweeping risk under the rug. Taleb's preferred name for this game is the Rubin Play, in honor of a well-compensated executive at a bank that needed to be bailed out.

Monkeys at the keyboard. Hand out 100 trading terminals and after a time the operator of one will emerge as an apparent genius. Collect a fee on the monkey feeder fund.

Streaking. Almost any investing style--small stocks, emerging markets, momentum--will have a winning streak, lasting 5 to 12 years. At an opportune moment, compare your results with the overall market's.