How to Spot a Crooked Financial Advisor

Mack Courter |

After reading my last post, you know about avoiding investment newsletter scams.  But do you know how to spot a crooked financial advisor?

You can get a sense of whether or not someone is honest just by watching and listening to them. 

But if you want to make sure, there is only one question you need to ask.

“Who custodies your client’s assets?”

If the answer is themselves, or their firm, then RUN!  This is how Bernie Madoff orchestrated the biggest Ponzi scheme in history. 

You see, most advisors hire a third party to take physical possession of their client’s money.  This custodian keeps track of all deposits, withdrawals, gains and losses in your account.  And, they furnish you with statements detailing all of this.  Because the custodian handles the money, it’s much harder for the advisor to steal it.  The custodian can be a brokerage like E*TRADE or Charles Schwab or a mutual fund company like Vanguard or Fidelity.  It can even be an insurance company or bank. 

But the unfortunate victims of Bernie Madoff didn’t write an investment check to a brokerage company.  They wrote it out to Madoff’s own company.  With no independent third party custodian, he was able to tell his clients anything he wanted. 

What made Madoff so difficult to spot, other than being a former head of the National Association of Securities Dealers, was that he never fabricated unbelievable returns.  His client statements showed a small double-digit gain, year in and year out.  

I’m not saying that every company that custodies their own client assets is crooked, but I would NOT give them the benefit of the doubt. 

Also, just because an advisor has an independent custodian, doesn’t mean that he is honest.  You need to do further due diligence to ferret out the weasels.  Checking out his or her regulatory history and asking for references are good places to start. 

Ultimately, go with what your gut tells you.  If someone makes you uneasy, take it seriously.  Even if they aren’t crooked, you don’t want to do business with them.  At the core of every successful client-advisor relationship is a high level of trust.  If trust is absent, it won’t work; no matter how “good” they are at managing money.