How Wall Street Rips Off Investors

Having Investors Sign Inaccurate Account Opening Documents

This may well be the most important chapter of this book. Errors or omissions in the account opening documentation can give a brokerage firm carte blanche to run amok in an investor’s account. If a problem develops in an account, the same shortcomings can doom any hopes an investor might have to get justice. Be careful in opening a new account. Use this book as an excuse to go to your brokerage firm and conduct a thorough review of all existing documents. Sadly, there are often great differences between what an investor is told verbally and what is reflected in the written account opening documents.

The most important lesson you may learn from this book is that the process of being ripped off by Wall Street does not begin with the first transaction. It begins much earlier. It begins when the account is first opened. The account opening documents create a written contractual agreement between the investor and the brokerage firm. Investors should be aware that these documents are carefully drafted by the brokerage firm’s lawyers for the firm’s protection, not the investor’s. Account opening documents are always treated very casually by investors. The forms are often completed at the beginning of the relationship with the firm, during the “honeymoon phase” of the relationship.

The broker is, above all, a salesperson and is generally not placing the investor’s protection as the first priority. The last thing the broker wants to do is talk about risks, risk exposure or the downside of the investment experience. He wants to paint a rosy picture of positive results, great success and a worry-free future.

It is essential for an investor who opens a brokerage account to have a solid understanding of the information required on the customer application and the purpose for which the firm is requesting that information. It is true that the information may be used to help the financial advisor assist the customer with investment objectives and financial goals. However, the information supplied on the application may be, and often is, used to protect the broker dealer and is often used against the interest of the customer if a problem arises. As simple as it sounds, an investor needs to make sure the information provided in the account opening documents is complete and accurate. Otherwise, in a dispute, the firm will accuse the customer of providing incomplete information. Never forget that the brokerage firm is selling products and has far different objectives than you do.

The information set out below will serve as a helpful guide to interpreting and understanding how best to complete the mandatory forms when opening a new brokerage account.

Investment Objectives/Risk Tolerance:

All account applications will have a section that requests information about the customer’s investment objectives. Most firms request that the customer supply both risk tolerance and investment objective information. In a portfolio with multiple accounts, it is not uncommon for the accounts to have different objectives and risk tolerances. It is in the investor’s best interest to be very specific and provide as much detail about the investment objectives and risk tolerance as possible. The broker is required to follow the customer’s stated investment objectives so that the recommendations to the investor are appropriate in light of any stated circumstances and risk or return requirements. [1]

Risk tolerance is different from investment objectives. Investment objectives relate to the goal of the account; risk tolerance relates directly to the investor. It describes an investor’s ability and willingness to bear the possibility of investments losing value in exchange for the possibility of higher returns. Risk tolerance ranges from conservative to very aggressive. A simple way of looking at risk tolerance involves identifying how much general risk one likes to take financially. Below is an example of a risk tolerance scale.

Determining an investor’s ideal risk level involves assessing and combining financial goals, personal perspective and comfort, amount invested and the realities of the financial markets such as market volatility and outlook. Only one option should be selected from the risk tolerance scale.

Our advice to any and all investors is simple and straight forward. Ask the firm you are opening an account with if such a clause is a part of their account opening agreement. Get their response and read the document carefully to be sure you are being given accurate information. If such a clause exists, then ask for one of two remedies. Either tell them to strike and initial that clause from the agreement or immediately tell the broker that you will be taking your account and business elsewhere if that clause is not removed.

If you give the power of information away to your broker, it can be used against you. Take a hands-on approach when it comes to taking care of your investments. The business model of the securities industry is anchored in the philosophy of the brokerage firms making money, not in protecting investors. It is critical to provide, in writing, everything expected from your investment account and your brokerage firm. Take the time to determine what investment objectives and risk tolerance are right for you. Do not let the brokerage firms make those decisions. In most arbitration cases, the first exhibit presented by the defense is the account opening agreement.

Key Points:

Ø Never sign a blank agreement.

Ø Understand every paragraph of the account opening documents before signing.

Ø Always provide complete and accurate information when opening an account.

Ø Remember that your broker is first, and foremost, a salesman.

Ø Broker dealers will not take responsibility for your losses unless they are forced to do so.

Avoid losses in the first place. Recovery is much more difficult than avoidance.

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