Inside the Wolves' Den

Who are the people you trust your investments with? Is it a stranger who cold-called you from out of the blue from a brokerage firm you've never heard of? Did this broker tell you he is one of the best traders on Wall Street and he could get you returns much higher than you ever thought possible? 

In this newsletter, Cold Spring Advisory will reveal the inner workings of these broker-dealers and expose the interests, motivations and backgrounds of the brokers who work at them. You will see that the phrase "caveat emptor" -- Latin for "let the buyer beware" -- could not be more appropriate.

What Are Low-Tier, or "Transactional" Brokerage Firms?

At Cold Spring Advisory, we use these terms to describe relatively unknown brokerage firms that rely heavily on cold calls and aggressive, high-pressure sales tactics to bring in business. The owners and brokers make their money by collecting commissions on the transactions they conduct in their clients’ accounts, handling and transactional fees, annual fees, margin interest and other profit centers.

The brokers at these firms cold call potential investors on a “sucker list” and use a forceful “straight line” pitch designed to bully them into opening an account. Senior brokers teach trainees how to make the investor feel small and inadequate for not opening an account, or for opening one with a small amount of money. They are trained to control the conversation, to talk over the investor, to sound sincere and enthusiastic, and to absolutely never take “no” for an answer.

The senior brokers tell the trainees that every potential client is lying about how much capital they have to invest. The senior brokers monitor the trainees' calls and feed them lines to say. Many of our clients have reported hearing the broker being coached in the background. These brokers also claim they can get their clients unrealistic returns – anywhere from 15% to 40%. Warren Buffet, the best investor in the world, is happy with a 10% return.

As they are pitching their firm to a potential investor, these brokers brag about how many “million dollar” clients they have and how they are the best traders on Wall Street. In reality, the majority of their clients are investing somewhere between $50K and $100K. A “whale” client for one of these firms is someone investing over $250K. 

These brokerage firms give trainees the necessary material to study and pass the series 7 exam. While they are studying for the exam, they are put on the phones to qualify investors. “Account openers” have to make over 300 calls a day to intimidate people into opening accounts because these firms have no call-in business. No one wakes up one day and decides to call one of these low-tier firms to open an account. As such, these modern wolves of Wall Street have to eat what they kill and if they don't kill, they don't eat.

We all know cold calling is a numbers game. If a broker makes 400 dials a day, statistically they will reach their target contact on 40 calls. Thirty-two of these people will immediately hang up. Eight (8) will stay on the phone and 1 or 2 will listen to the “straight line” pitch and open an account. To try to improve their odds, these brokers engage in "cold slamming," whereby they cold call someone and act like they are following up a previous conversation that, in reality, they never had with that person. They do this so they can jump right into the straight-line pitch and get the person to open a fat account.

Once a broker works for one of these low-tier, transactional firms, they are basically stuck. The bigger, higher-tier investment firms, such as Morgan Stanley, Merrill Lynch, UBS and others will not hire them because of their pedigree. These transactional firms are known in the industry as firms that do not put their clients' best interest first and do not observe high ethical standards. As such, these brokers bounce from one transactional brokerage, to the next racking up regulatory and customer complaints as they go.

What Kind of People are the Brokers at These Firms?

Cold Spring Advisory has found if you invested with a low-tier or "transactional" broker-dealer, your broker is likely a high school graduate or college drop-out between 18 and 30 years old. They are given titles such as senior vice president and first vice president to placate their egos and make them feel like big shots. They wear knock-off name brand suits and define themselves by the cars they lease.

These brokers are drawn to these firms not just because they offer series 7 and series 63 sponsorship and the "potential for a six-figure income" after the first year, but more because they see the Ferraris, Porches and Mercedes in the firm's parking lot and the expensive watches on the senior brokers' wrists. For these brokers, the business is a game and the one with the most toys wins. Furthest from their minds are the countless people whose lives’ they destroyed by their reckless, greedy, unethical and often illegal behavior.

Given their age and demographic, most, if not all of the brokers at these firms have Facebook pages. In a random sample, we found copious quotes, movie clips and references to Jordan Belfort, whose life inspired the film "The Wolf of Wall Street," and fictional character Gordon “greed is good” Gecko from the movie "Wall Street." Other sources of motivation include quotes and clips from "Boiler Room," "Scarface" and "Glengarry Glen Ross." You quickly realize these brokers are pumping themselves up to make (take) as much money as possible for (from) their clients.

A review of their FINRA (Financial Industry Regulatory Authority) BrokerCheck reports shows many of these brokers are transient, moving from firm to firm every year or two. This is because they build a book of business, say 20 to 30 clients, siphon as much money out of them as possible (called “burning the book”), and then move on after they decimate their clients’ accounts. They’ll go to the transactional brokerage across the street and show that firm’s owner their old "money lines" and how much money they made at their last firm. They tell the owner that they can do the same thing for him, collect a sign-on bonus anywhere between $15,000 - $100,000 and get started on their next book. They can get even bigger sign-on bonuses if they bring a few brokers from the old firm with them, and if they can bring over a few accounts that still have some lifeblood in them. Every owner of a transactional, low-tier brokerage firm wants to be the next 100-man shop, so they hire these brokers at 60% to 70% of gross.

Commissions, Commissions and more Commissions.

To get commissions, these brokers need to move their client's money around. They don't promote conservative stocks such as Caterpillar, Johnson & Johnson or GE because blue chip and similar stocks don't move much and don't have a sexy story to sell. These firms hype biopharmaceutical stocks and highly speculative stocks as the next big thing with a grand slam return.

At these firms, they’ll have 30 - 35 brokers in a boardroom looking for a good investment to pitch. They ask brokers at other firms what they're pitching, and if it sounds good, they tell the brokers at their own firms about it. These boardrooms are extremely contagious. Soon you have a lot of brokers at different transactional firms pitching the same handful of stocks based on nothing but a sexy story. No research. No verification. Just hype.

Most of the brokers at these firms are self-employed, live at their parent's home and spend their money primarily on expensive cars, watches, restaurants, etc. Drug use, especially cocaine and prescription drugs, is rampant at these firms as well. As such, when these brokers need money, they will even have their clients take losses just to get commissions. 

All brokers get paid on the 15th of the month for the prior month’s commissions. We frequently see the amount of commissions our clients were charged increased sharply toward the end of the month, especially after the 20th, before the December holidays and around the times brokers tend to take vacations. When these brokers say the success of their program is based on matching timing and opportunity, they’re really talking about the timing of collecting a commission, not timing in the market.

So investors, we recommend you push aside the curtain and see who is managing your investments. If you're on Facebook, look up your broker and see who is really on the other end of the phone. On Cold Spring Advisory's website, www.coldspringadvisory.com, you can perform a FINRA BrokerCheck to find out where your broker has worked, how long he worked at each firm, and whether the firm is still in business or has been expelled by FINRA. You can also see if there are any complaints on their record, what they were about and whether they were settled or are still pending. 

In conclusion, Cold Spring Advisory urges investors to investigate who is managing your money and find out if your broker is a wolf in a sheep’s knock-off Armani suit. If you find that your broker has been at 10 different firms in the past 10 years, and some of those firms have been expelled by FINRA, your alarm bells should start to ring. If the brokerage firm’s or broker’s BrokerCheck report shows they have been a respondent in multiple complaints alleging the same behavior, e.g., churning, unsuitability, unauthorized trading, failure to supervise, fraud, etc., you may be at risk for experiencing similar kinds of abuses.

To learn more or to find out if you have been, or currently are a victim of broker abuse or mismanagement, please visit us at www.coldspringadvisory.com, or call us at (212) 566-6060.

Next: The Modern Wolves' Straight Line Pitch: The Other "Bull" on Wall Street