How to safeguard your investments against Advisor Fraud ?

Ajay Bagga, Vice Chairman, Financial Planning Standards Board and CEO, Lotus India AMC, describes the most common financial advisor frauds that hit investors globally and tells you how to safeguard yourself।

Indian Households will save around USD 300 billion in 2008। That is Rs 1.2 million crores. However, as a nation we are woefully unprepared to turn this huge savings pool into investments that balance security and returns, liquidity and the long term.

We often turn to a trusted acquaintance, who dons the role of our financial advisor। Most of these advisors are not qualified or trained or certified financial planners. The better ones are accountants, lawyers, bankers, independent financial advisors, insurance agents, post office agents et al. As a result, while the financial planning profession is growing at an explosive pace, so is the volume of the fraud committed by cheats who constitute the underbelly of this relatively new and still unregulated service segment. The situation is not very much better in the more developed nations either, with nearly 25 million Americans, one in every twelve, falling victims every year to scams totaling billions of dollars. And it`s not the old, gullible or desperate only who fall prey. The American National Consumers League reports that in 2004, nearly 75% of scam victims were between the ages of 20 and 50 years old. The average loss was $895 per victim.

Recently, the capital market regulator, SEBI, has issued a draft regulation to bring all ``Investment Advisors`` into a regulatory framework and to create a SRO to ensure ethical compliance by these।

The Financial Planning Standards Board (FPSB) is doing path breaking work in educating, standardizing, certifying and overall raising the quality of the Financial Planning profession in India।

However, the maxim of ``caveat emptor``, let the buyer beware is the best guide for investor। Investors need to protect themselves from scams by learning how to recognize the warning signs of potential fraud, remaining vigilant, and taking steps to prevent becoming a victim of money scams.

Based on our experience with the most common frauds that investors encounter, we are suggesting ``Seven Actions that an Investor Must Never Do`` no matter how trustworthy the Financial advisor is:

NEVER write a cheque made payable to your advisor, always make cheques account payee only:

Your cheques should be made payable only to mutual funds, brokerage firms, or insurance companies। No credible advisor would ever allow a client to write a check for investments or insurance payable to him personally or to his firm. This is one of the most common forms of fraud that investors face. All mutual funds offer local clearing facilities or pick up any draft making charges/ banking charges. So never issue cheques payable to the planner. Also, cross all cheques as account payee, write your name and the purpose of the investment on the reverse of the cheque, mention your cheque number and bank details in the application form. And keep copies of the application form and the cheque with yourself.

NEVER allow your advisor to list himself as a joint owner or beneficiary on your accounts:

The only place your advisor`s name should appear on documents is as the broker /distributor /agent of record, with their code। Be careful that it`s not appearing as a joint holder or a nominee. Also ensure that after you hand over a form, no additions are made to it. The easiest way to ensure this is to cross out all empty places in the form, before handing it over to the advisor. And keep a copy.

NEVER lend money to your planner:

A Code of Ethics governs the Financial Planner। Like a Medical Practitioner, he/she must maintain confidentiality and not use your financial information in any form other than what is beneficial to you. If your financial advisor asks for short-term loans, its time to sack him/her. This is symptomatic of potentially bigger financial irregularities and also unethical on their part.

NEVER sign a blank form or contract:

If you don`t have the time, ask the advisor to come some other time, rather than risk losing your principal investment by signing a blank form। Cross out all empty sections, especially the ones that contain details of joint holders and nominees. Never sign a blank instruction for repayment or encashment of your investments. Many investors have lost their entire investments due to signing blank instructions. And since their signatures are genuine, it becomes very difficult to recover the money in a court of law. We have seen many cases where gullible investors signed blank redemption forms which advisors used to siphon off money into their own accounts.

NEVER let your advisor copy your signature on any document:

This is a fraud, which could land you in trouble with the law of the land। Furthermore, you cannot control where else the advisor maybe forging your signatures. Think of all implications before you try to take short cuts like these.

NEVER let your advisor use his address on account statements instead of yours:

You should receive periodic statements directly from the mutual fund, brokerage firm, or insurance company। Never allow your planner to have such documents go to his office instead of to you. Periodically check your account balance directly with the mutual fund, brokerage firm, or insurance company .All funds are mandated under law to send at least one statement per annum to every investor. And for dormant investors, all funds send biannual statements of accounts to investors. Don`t believe in statements made on blank paper; insist on statements on the mutual funds stationery.

NEVER let your advisor sell you a Ponzi scheme:

Be on your guard for possible Ponzi schemes. These are swindles in which a few initial investors are paid interest out of the proceeds of later investors, who end up with nothing when the bubble bursts .The promoter pockets most of the remaining money. The red flag to avoid? When your advisor tells you to invest in a ``guaranteed`` scheme that offers returns far above prevailing market rates. This no-risk promise is the No. 1 sign of a possible Ponzi rip-off.

These are seven of the common precautions that will safeguard you against potential advisor fraud. They sound common sensical, but you would be surprised at how many investors, both individuals and institutional, fall prey to these every year. We hear very little about them as either the investors don`t want to admit their foolishness by going to the police in such cases, or the institution makes good the loss to avoid reputation risk. Think about this and implement these safeguards. You will be glad you did.
Authored by Mr. Ajay Bagga, CEO - Lotus India Mutual Fund

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