What's wrong with the German financial advice market?

Many people entrust banks with their money, believing that they will be well looked after and that the money is safe there.  While they certainly will not abscond with the funds, the odds of getting good, objective advice and suitable investments are low.  

Furthermore, as authors Bosetti and Walz of Beraten statt Verraten* (translates as 'Advised rather than betrayed') point out, it takes years or even decades to discover the harsh reality, namely that the returns on one’s portfolio are unacceptably low and that one is more or less saving oneself into poverty.

Transparency

Due to the excessively high and opaque cost structures and nature of the investments themselves, the money is often little more than parked for the long term, but this is not revealed up front of course.

For a start, what is presented and literally labelled as financial advice (Beratung) is nothing of the kind, but simply selling. The process should be very different from buying a product at a store, but it is not. 

The so-called advisers basically sell you what they want to sell or are instructed to do so, because it yields the greatest revenue for the bank. This is particularly serious, because every euro that they gain, is one lost for you.  

Furthermore, most investors do not understand how damaging the “costs” (their slice of the pie) really are.

Although not necessarily bad people, as stressed in the book, these advisers generally have far too many clients for them to do anything other than go for a quick and easy sale. 

If a fund only yields, say, 6 per cent gross, which is not unrealistic, and only in good times please note, after 2 per cent costs, 2 per cent inflation (now far more) and taxes, you come out with a roughly zero real return. How many people understand this and what bank adviser will even hint at this reality? 

This brings us to the first trick, that everything is presented in nominal terms, without adjusting for inflation. Bosetti and Walz rightly criticise  banks for persistently talking in “nominal terms”, which, for long-term investments is fundamentally misleading and right now just hopeless.  

The broader public, they argue, just does not understand the inherent and substantial conflict of interests between the seller and the buyer of financial products. Fee-only advisers may also have motives to advise in a specific direction, even if they do not earn a direct commission. The level of informational asymmetry in the financial industry is extremely high. 

Walz and Bosetti further warn that the complexity of many financial products cannot be overestimated. 

In essence, the book explains that all too often there is massive pressure on the bank adviser to generate revenue, irrespective of the risk profile, needs and interests of the client. Accordingly, the heat is on to sell:

• As much as possible in terms of money invested;
• As often as possible, the notorious churning (in extreme cases a criminal offence, but a bit here and there, more insidious); and 
• With the greatest possible commission or 'costs' for the bank.

It is also fundamental to note that, although they are not necessarily bad people, as stressed in the book, these advisers generally have far too many clients for them to do anything other than communicate superficially and go for a quick and easy sale.   

Products

So what gets sold under these circumstances? 

For a start, actively managed funds that charge as much as 5 per cent up front and 2 per cent a year. Furthermore, these advisors generally push a narrow range of high-revenue products, even though they could in fact choose from a wide range.

Such products are incredible money spinners for the bank and the underlying company, who rake in the cash.

No wonder Germans are themselves moving their money into trackers and ETFs in droves, including various friends and acquaintances of mine.   

And then there are insurance-linked products, or at least offers from investment companies. One such gem entices the unwary as follows: “You can share in stock market gains with no downside risk.” The small print, however, reveals that the gains are capped at 2 per cent, at the time, precisely the rate of inflation.

Furthermore, your money is locked in for 10 years, so that in fact you could ride out stock market volatility anyway in a far more effective and lucrative vehicle. This type of basically pointless asset (for the investor) is foisted onto many innocents who have some spare cash available, as an unsavoury form of cross-selling – an important concept in this entire scenario. 

Such products are incredible money spinners for the bank and the underlying company, who rake in the cash, get the full stock market returns over the long run, and pay out a couple of percent to the hapless investor. 

Far better to simply put the money in a low-cost fund, or just leave it in cash till you find something that is really promising, perhaps in a bear market. Similar issues arise with some home savings contracts. 

Then there are pension schemes, which are touted with regular frequency. These are sold to the public as a great way to save for your future, again because you benefit from stock market returns over time and there are allegedly substantial tax advantages. 

The problem here, the authors stress, is that the tax benefits are in fact minimal, and like the above products, your share of the returns are poor. Again, just investing in a sensible mix of assets is a far better bet.

The usual motive is to use this either as a basis for churning your money or to lure your other money over to them.

Furthermore, the overemphasis on the alleged tax benefits, say the intrepid authors, is a deliberate smokescreen to draw attention from the other undesirable aspects of the investment.  

Getting back to churning, this is one of the all-time sell-side favourites. After all, a client with no new cash does not generate much revenue, unless he or she sells one thing and buys another, preferably with another round of up-front fees. 

The specious argument is that this sell and buy will 'optimise your portfolio'. And beware any requests to reveal what other money you have elsewhere, under the pretext once again of optimisation. The usual motive is to use this either as a basis for churning your money or to lure your other money over to them. 

Attitudes and behaviours

Let us move on to the psychology behind these processes.

Firstly, most people do not want conflict and seek harmony. This is fully exploited in the financial advisory process by taking advantage of people’s natural desire to please and to avoid awkward situations.

So the adviser may say: 'I see you have €15,000 in your current account, which is not earning anything. I have an excellent product that many of my clients have and they are all very satisfied...'. How do you say no to this, even if you suspect that are better vehicles out there for your money? 

Even worse, the authors of this book point out an insider saying in the industry "when the client says no, that is when the real work begins". At its simplest, the adviser just will not take no for an answer and tries again and again, hoping to wear you down. 

The common sentiment in the literature is that banks are more suited to conventional banking activities.

Alternatively, they ask you what your objections are and talk you out of them (or at least negate them) one by one, then stating that you can now go ahead. All of this is pure high-pressure selling, but it works on the unwary or those who just cannot stand up to it. 

Many investors are unable say no firmly enough, which is quite understandable. At best, such 'advisers' can be described as double agents, but with a clear and substantial bias in favour of helping the firm rather than you.  

As my friend Reinhard once said to me “the (banks) enrich themselves first”. At worst, client interests are simply disregarded entirely. 

The common sentiment in the literature is that banks are more suited to conventional banking activities like current accounts, loans and mortgages. For investments, however, it is generally necessary to find specialists in this specific area who keep costs low and advise you objectively without the standard conflicts of interest and pressure to sell. 

Brian Bloch is a freelance journalist

* Reference: Beraten statt Verraten: So wehren Sie Manipulationen in der Finanzberatung souverän ab, (Advised rather than betrayed: How to confidently fend off manipulation in the context of financial advice) by Ulrich Bosetti und Hartmut Walz.