2Asymmetrical information: In all negotiated sales, one party has far more information, knowledge and experience about the product being bought and sold. One party knows its undisclosed warts and risks better than the other. Which party are you?
3Good advice is priceless: I know, easier said than done. The Street buys the best legal talent, mathematicians and strategists that money can buy. Make sure you have expert advisers and lawyers working for you as well.
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4Motivation:Always ask, what is the motivation of the outfit selling me this product? Is it the long-term stability and financial health of my organization — or their own fees and commissions?
5Legal documents are created to protect the preparer (and its firm), not you or yours: In the history of modern finance, no large legal document has worked against its drafters. Private placement memorandums, sales agreement, arbitration clauses — firms use these to protect themselves, not you.
6Performance: How significantly do the fees, interest rates commissions, etc., have an impact on the performance of this investment vehicle over time? Determining for yourself what the actual cost of money is will avoid more heartache in the future.
7Shareholder obligation: All publicly traded firms (including investment banks and bond underwriters) have a fiduciary obligation to their shareholders to maximize profits. This is far greater than any duty owed of care to you, the client. Always ask yourself whether this new product benefits the shareholders or your organization. (This is acutely important for untested products.)
8Reputational risk: Who suffers if this investment goes down the drain? Who gets fired or voted out of office if this blows up? Who suffers reputational risk?
9Keep it simple, stupid (KISS): It’s easy to make things complicated, but it’s very challenging to make them simple. The more complexity brought to a problem, the greater the potential for things to go awry — not just astray, but very, very wrong.
10There is no free lunch: Repeat after me: There is no free money, no riskless trade, no way to turn lead into gold. If you remember no other rule, this is the one that will save your hide time and again.
If you wondered why the biggest financial firms are fighting tooth and nail to avoid having to maintain a “fiduciary standard,” just look at the fees and expenses in deals like this. There is always big money in the ongoing attempts to turn lead into gold.
The never ending parade of stock scandals continues unabated. As history has shown us — from Mexico to Orange County to analyst banking crisis to derivatives — when the Street comes a-knockin’, best you hide your wallets.
Ritholtz is chief executive of FusionIQ, a quantitative research firm. He is the author of “Bailout Nation” and runs a finance blog, The Big Picture. On Twitter: @Ritholtz.
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