This past weekend turned up another Ponzi scheme, with a respected Iowa fund manager admitting to having stolen $100+ million from clients of his futures company, Peregrine Financial.  This comes on the back of $1.6 bn lost by another futures broker (MF Global — details still under investigation), reports that many banks consistently misstated LIBOR interest rates to their own benefit, and several years ago, the Bernie Madoff and Allen Stanford Ponzi schemes, which totalled $25 billion in money stolen from investors.

Who can an investor trust?

Option 1, which many investors chose, is a big, brand name brokerage firm, and that’s probably quite safe.  Unfortunately, it’s also expensive.  On average, it will cost you 1% more per year than working with an independent adviser like me.  You also need to guard against attempts to sell you “gotcha” products (seemingly simple products with hidden derivatives), where they earn high fees.

Option 2 is to go with an adviser who is a “friend”.  Without the safeguards outlined below, you run the same risk as the friends of Wasendorf (Peregrine’s founder), Madoff or Stanford.

I prefer Option 3, the “trust but verify” approach.  First, select an independent adviser you trust.  Second, insist that your account be held by a separate, large firm (I use Schwab).  You can check your account 24×7, and you’ll know that the firm has a large, outside auditor.  That introduces checks-and-balances.  Third, insist your adviser use only transparent, easy-to-understand investment products such as public mutual funds or listed stocks and bonds.  You can check any day how the stock, bond or fund is doing.  Compare that to Madoff, who took investors’ money, didn’t tell them what he invested in and produced phony statements audited by an unheard-of auditor, or Peregrine, which promoted exotic products that few of their investors would have understood.

If you keep it simple and have a basic checks-and-balances system, you can focus on what should matter — long-term returns and the market risk you take to get those returns — and not worry about theft.