A big story that made the rounds in the financial media last month was Jim Cramer's (of the Street.com) statement that some hedge fund managers spread false rumors about a company to large trading desks and the media to drive a stock price lower. He said this practice is illegal, but easy to do "because the SEC [Securities Exchange Commission, the U.S. regulatory body] doesn't understand it." Furthermore, the extremely wealthy former hedge fund manager boasted, “What's important when you are in hedge fund mode,” says Cramer, “is to not do anything remotely truthful, because the truth is so against your view.”



For those of you that remain skeptical about the deceitful practices of investment professionals and firms, perhaps an insider's admission will finally convince you. Why these stories even make big headlines is beyond me. As a former industry insider myself, I've been saying for years that the investment industry is full of investment professionals, everyone from financial consultants to private wealth managers to professional money managers, hard at work weaving the emperor's new clothes. However, only when a big mouth like Cramer speaks of the dishonesty that netted him great wealth does it attract attention.

For those of you not familiar with the fable “The Emperor's New Clothes” let me summarize it for you. Long ago in a fabled kingdom, there lived an emperor whose vanity was legendary. Two swindlers, Guido and Luigi Farabutto, knew that they could capitalize on this emperor's character flaw to make a huge profit. They approached the emperor and told him that they would sew him the finest suits of a very expensive special cloth that would be invisible to anyone that was stupid or of low character. The emperor, fearing that he would not be able to see the clothes, sent two of his men to go see the suits. The men returned, and afraid to tell the emperor they could not see the clothes, told the emperor that the suits were the most beautiful suits they had ever seen.

When the emperor went to see the Farabutto's, knowing that his servants had been able to see the clothes, he did not want to admit that he could not see the clothes for fear of being considered stupid and of low character. So he proceeded to allow himself to be dressed in non-existent clothes for a parade through town and proceeded to walk through town in his underwear. When he came upon a young boy that pointed at him and said, “But he has no clothes”, only then did the emperor realized that he had been swindled.

It is amazing to me that many investors, even those with millions at investment firms, actually believe that their advisor or their firm has their best interests at heart. In fact, in my list of “101 Reasons Why Managing Your Own Money is the Only Way to Build Wealth” at http://www.smartknowledgeu.com, I've given readers 101 reasons why this is very, very rarely the case. Of course, everyone thinks that their advisor or financial consultant is the one guy or gal at their firm that actually cares about their financial security. If only they could spend just one day in the trenches with their advisor, they would 999 times out of 1000, witness a completely different story. I'll relay another strategy I heard about a top financial consultant at a top Wall Street firm that should get your attention.

This top financial consultant managed many million dollar accounts. The way he would get wealthy investors to trust him was to demonstrate to them his ability to pick stocks that performed phenomenally well. To accomplish this, he would find a very thinly traded stock that historically had been very volatile. He would pay for a list of high net worth clients, call ten people on that list and tell them he was a top financial consultant at his firm. Of course, this would not get the attention of these wealthy individuals because they did not know him from Adam. Knowing they would be hesitant to hand their money to him and begin a relationship with him, he would acknowledge their reservations. He would then proceed to ask them to write the name of this volatile stock that he had researched on a piece of paper. He would then tell these 10 individuals that his stock picking methodology was so good that he was 100% sure that if they invested in this stock, they would make a healthy profit in a short period of time.

Then he would take the next 10 people on the list, repeat this scam, but instead, tell these 10 people that he was 100% sure that they would make lots of money from this stock if they purchased put options on this stock. Then he would wait several weeks until the stock moved 25% or so. If the stock gained, he would call the 10 people that he told he was 100% sure they would make lots of money from buying the stock. If the stock lost 25% or so, he would forget about the 10 wealthy individuals he promised would make lots of money by buying this stock and call the 10 people he told to short the stock. When he called these individuals they were amazed that he was right regarding a stock that they had never heard of, and many agreed to give lots of money to him.

I tell you this story because schemes like this, designed to make it appear as though these investment “professionals”, and I use this term very lightly, really know what they are doing, when in fact, they are selling nothing more than emperor's clothes to you. In fact if you have been reading my blogs for a while now, you know that the strategies of diversification, asset allocation, and low volatility are all just emperor's clothes as well. Though they may sound great to you, that's exactly what the very best of all sales strategies accomplish. They are designed so well that they make you feel comfortable and in charge. The very best emperor's clothes “sell” customers without the customers even realizing that they had been highly selected targets. Just search our “Down the Rabbit Hole” and “Educational resources” articles at http://www.theundergroundinvestor.com to discover why all of the best known investment strategies today are nothing more than emperor's clothes.

My estimate of the percent of professionals that weave emperor clothes every day to hand to investors is 99%. They weave schemes, marketing strategies, and sales strategies in complex ways so that upon presentation to you, they seem like the finest financial strategies designed especially for you, their finest clients. Only in the end, these strategies leave you financially naked, so much so, that even children with no financial level of sophistication, would comment upon seeing these investors that so willingly let themselves be taken for a ride, “But he has no wealth.”

In fact, just last week, I read this article with statements from the CEO of a firm that handles the accounts of some of the wealthiest people in America about what it takes to truly build wealth. Many of his statements, though emperor's clothes arguments that most people accept as truth, were so ludicrous that I laughed out loud, knowing that he had been able to weave emperor's clothes for the top tier of wealthiest clients in America. Don't get me wrong, it's not that I believe that everyone in the business is out to scam you out of your hard earned money. There are some truly good, honest people in the business.

However, due to how firms compensate their financial consultants, this much is inevitable. There will come a time, and most likely several times, when a consultant will have to make a choice between you and himself/herself. This means that the consultant will have to choose between doing the absolute best thing for you and doing something not as good for you but better for his or her paycheck. And having been in the business, I know plenty of consultants that chose the latter many times and rarely any at all that chose the latter infrequently.

Always remember Jim Cramer, someone that built an estimated fortune of $100 million by manipulating wealthy clients, stated, “What's important when you are in hedge fund mode, is to not do anything remotely truthful, because the truth is so against your view.” And when you read Cramer's statement again, know that this mentality predominates among almost all investment industry professionals, not just Jim Cramer.