Honesty and ethical practices are of utmost importance in any business, and especially in the investment business that remains clouded under mistrust. What’s wrong and what must be righted is what we discuss here.
The richest one percent of this country owns half our country’s wealth, five trillion dollars. One third of that comes from hard work, two thirds comes from inheritance, interest on interest accumulating to widows and idiot sons and what I do, stock and real estate speculation. It’s bullshit. You got ninety percent of the American public out there with little or no net worth. I create nothing. I own. We make the rules, pal. The news, war, peace, famine, upheaval, the price per paper clip. We pick that rabbit out of the hat while everybody sits out there wondering how the hell we did it. Now you’re not naive enough to think we’re living in a democracy, are you buddy? It’s the free market. And you’re a part of it. You’ve got that killer instinct. Stick around pal, I’ve still got a lot to teach you.
These are the famous words of Gordon Gekko, the fictional stock broker from the 1987 movie Wall Street.
Thanks to this role, Gekko became a symbol in popular culture for unrestrained greed with his signature dialogue in the movie…
Greed, for lack of a better word, is good. Greed is right. Greed works. Greed clarifies, cuts through, and captures, the essence of the evolutionary spirit. Greed, in all of its forms; greed for life, for money, for love, knowledge, has marked the upward surge of mankind…
What Gekko blurted out almost three decades ago, remains true as far as the investment industry is concerned. Greed has been at the forefront of how the industry has been operating over these years, while ethical conduct has remained mostly in the shadows.
Investment professionals, across the length and breadth of the industry, have sworn by the need to uphold the trust shown in them by their clients. But the promise, like assured profits for clients, has mostly remained on paper.
The proof lies in the document on Code of Ethics prepared by the CFA Institute, which starts thus…
Ethics can be defined as a set of moral principles or rules of conduct that provide guidance for our behavior when it affects others. Widely acknowledged fundamental ethical principles include honesty, fairness, diligence, and care and respect for others.
Ethical conduct follows those principles and balances self-interest with both the direct and the indirect consequences of that behavior for other people.
Not only does unethical behavior by individuals have serious personal consequences – ranging from job loss and reputational damage to fines and even jail – but unethical conduct from market participants, investment professionals, and those who service investors can damage investor trust and thereby impair the sustainability of the global capital markets as a whole.
Unfortunately, there seems to be an unending parade of stories bringing to light accounting frauds and manipulations, Ponzi schemes, insider-trading scandals, and other misdeeds. Not surprisingly, this has led to erosion in public confidence in investment professionals.
Empirical evidence from numerous surveys documents the low standing in the eyes of the investing public of banks and financial services firms – the very institutions that are entrusted with the economic well-being and retirement security of society.
I have been part of the direct working of the investment industry for eight years (2003 to 2011) and have been a witness, though indirectly, of unethical behaviour by individuals and institutions that formed part of the haloed industry.
The suggestion to write on this subject of ethics in the investment industry came from someone I respect a lot, both for his immense wisdom and the high levels of integrity he brings on the table. But the moment I look at most other practitioners in this industry – investment analysts, money managers, brokers, investment bankers, and financial advisors – it pains me to see the way the industry works, and the way trust is destroyed at every step of the client relationship.
Not surprisingly, the highest body in the investment analysis space, the CFA Institute, is worried about the unending parade of frauds and manipulations that has caused the erosion of public confidence in investment professionals.
There are several areas of soul-searching that investment professionals must indulge in. I will write about them in the subsequent issues.
Whether you are an investment professional yourself, or an outsider, I will try to take you into the inner sanctum of what I see in this industry, and try to open a new door to a new world in the same way a new world opened up to me when I took my first job as a stock market analyst in 2003, and soon started seeing things that have pained me ever since.
I then thought that the investment industry had nothing to do with manipulation and everything to do with balanced, rational thinking. For me, the stock market was rational, analytical, and cool. Fooling people was not part of this equation. But this is what I thought then.
What I think now of the industry is what you will read in the subsequent issues of this newsletter. But lest you lose faith in the entire investment community as a whole, let me tell you that hope surely exists.
This piece of the newsletter will be specifically focused on sharing my thoughts and suggestions with investment professionals with the purpose of bringing back trust and sanctity in the profession – something that Benjamin Graham had proposed while framing his standards for the industry almost 70 years ago.
In the book Benjamin Graham: Building a Profession, the editor Jason Zweig quotes Graham’s definition of a “qualified analyst” as one who would:
- Possess “good character”
- “Observe rules of ethical conduct
- Pass an exam to demonstrate “knowledge of his field”
- Obtain required experience to show “professional competence”
- Be devoted to “advancing the standards of his calling”
It is striking how Graham emphasizes the element of “good character” and “ethical conduct”, which he placed even before “sound competence.”
Graham was very critical of investment professionals for putting their selfish interests ahead of the interests of the common investor. He was an early proponent for investor rights, and also believed that the stock specific advice (even when not selfish) offered to investors was foolish and speculative.
Given that things haven’t changed at all ever – in fact, they have worsened – since Graham first laid focus on ethics in the investment business, my idea through this piece of the Value Investing Almanack will be to bring Graham’s philosophy on ethical conduct in the investment industry back to where it belongs.
Of course, there’s too much cleaning up to do. But then, it all starts with an idea.