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(Luca Francesco Giovanni Bertolli)
(Luca Francesco Giovanni Bertolli)

Rob Carrick

How to spot a crooked adviser Add to ...

The stock markets go up and down, but there’s always a bull market in investment fraud.

The latest example, that we know of, was a $7-billion (U.S.) fraud set up by the Texas financier Allen Stanford. Mr. Stanford was convicted of 13 counts of fraud last week involving what the New York Times reported as almost 30,000 investors in 113 countries.

In Britain, a con artist named Kautilya Pruthi recently began a 14-year sentence for defrauding people out of the equivalent of about $170-million. Mr. Pruthi is called Britain’s Bernie Madoff, a reference to the now-imprisoned king of investment fraud. There’s also an Amish Bernie Madoff, Monroe Beachy of Sugarcreek, Ohio, who this week agreed to plead guilty to charges of fraud involving almost $17-million.

Can this abuse of investors ever be stopped? “If we can lead people to ask the right questions and provide the right resources, then at least we’ve got a shot,” said Stephen Horan, head of private wealth management at the Charlottesville, Va.-based CFA Institute. The institute oversees the widely respected chartered financial analyst designation.

March being fraud prevention month, let’s look at some measures people can take to help avoid the criminal posing as an investment adviser. Mr. Horan starts by challenging a common piece of advice on finding an adviser, which is to ask friends, family and contacts for a referral. How did Mr. Madoff and Mr. Stanford find many of their victims? Referrals, Mr. Horan said.

“Referrals might work when you’re looking for a plumber, and they probably do have a role in investment management,” he said in an interview over the phone from London. “But if you limit your vetting process to that, you’re not being circumspect and you can end up with these Madoff- and Stanford-type situations.”

An important step in ensuring you have a reputable adviser is to see whether he or she has been in trouble with regulators. “Past regulatory and legal violations are highly associated with future fraud,” Mr. Horan said.

Start a background check on an adviser by ensuring he or she is registered with the provincial securities regulator (see sidebar). To check an adviser’s disciplinary history, consult the website of either the Investment Industry Regulatory Organization of Canada or the Mutual Fund Dealers Association of Canada.

A clean record means you proceed to ask more questions, Mr. Horan said. For example, ask the adviser how he or she is compensated. You’re not looking for a specific answer here as much as you’re looking at the adviser’s attitude. Ideally, the adviser will speak “fluently, openly and comfortably” about fees.

Next, ensure a third-party custodian will hold your investments in an account that is separated from the assets of your adviser’s firm. Any cheques you write to fund your account should be made out to your investment firm, not your adviser or any separate corporations he or she is associated with.

“I would not be writing a cheque in the name of the adviser,” Mr. Horan said. “That’s just setting yourself up.”

Another way to protect yourself as a client is to ask about the professional and educational background of any associates of your adviser who may work on your account, Mr. Horan said. Ideally, any associates will be people who are established in the investing industry and have a professional credential.

Next, ask your adviser whether he or she is bound by a code of conduct through any professional accreditations. “Here, you’re almost looking for a reaction,” Mr. Horan said. “Is the adviser comfortable and confident in speaking about this, or is this a question they’ve never got before and they don’t know what to say?”

Ask as well if the adviser’s firm has operational controls in place to pick up on self-dealing by employees, which means making transactions for their own benefit ahead of clients. Mr. Horan said a firm that isn’t vigilant about this is out of tune with the potential conflicts of interest that can arise between advisers and clients.

While the bull market in fraud continues, Mr. Horan believes some investors are starting to get smarter about finding a reliable adviser. Some are asking more probing questions, while others are just plain getting tough. “I’ve heard from a lot of our members that, in the aftermath of a lot of these frauds, clients are saying, Prove to me you’re not the next Madoff.”


Vetting your adviser

Step One: Ensure he or she is registered to provide advice or sell investments.

For all provinces except Ontario:

The Canadian Securities Administrators national Registration Search

For Ontario:

The Ontario Securities Commission

Step Two: Check if they have had any issues with regulators.

For advisers licensed to sell stocks as well as mutual funds

For advisers who sell mutual funds only

The WhereDoesAllMyMoneyGo.com blog's tutorial on doing a background check on an adviser

Report Typo/Error

Follow on Twitter: @rcarrick

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