Asking friends for help can be a good way to start a search for a financial advisor, experts say. But relying blindly on such referrals can be a recipe for disaster, as the current saga of Santa Barbara money manager Reed E. Slatkin demonstrates.
To cite but one example: A retired Tarzana businessman said he handed over $6 million to Slatkin based on a friend's recommendation and a single meeting.
"I just figured [the friend] is a brighter fella than I am, and he had money with Reed," said the retiree, who recently had sold a successful construction-related business and who asked not to be named. "That's kind of a dumb reason, isn't it?"
Hundreds of other investors made similar decisions, much to their regret. Government investigators and investors' attorneys now believe as many as 800 individuals, families and companies invested with Slatkin, who is under criminal investigation for alleged investment fraud.
Many of the investors were multimillionaires who met Slatkin through their equally rich friends--proving that the wealthy can be just as capable of being duped as those with less money at stake, experts said.
It's not that asking for referrals is wrong, regulators and financial advisors say. Investors typically are advised to seek recommendations when looking for someone to manage their money, and asking friends for help is a common practice. One-third of the respondents in a 1999 survey said they relied on a recommendation from a friend or relative in choosing a financial advisor.
But gathering business cards at a neighborhood party or picking up names through the grapevine at work can be problematic if that's the end of the selection process, attorneys and regulators say.
"We tell people to get referrals, but how good are the referrals?" asked Charles Rettig, a Beverly Hills attorney representing several of Slatkin's investors. "Not very," if the person making the recommendation hasn't checked out an advisor's background.
Investors should interview multiple candidates, check advisors' backgrounds with regulators and scrutinize investment statements before handing over their money, said Susan Wyderko, director of investor education for the Securities and Exchange Commission.
"We harp ad nauseam about what you should do, but not many people do it," Wyderko said.
Being rich doesn't necessarily make investors more cautious. The wealthy may be even less inclined to do the legwork required to hire a qualified money manager than those with smaller amounts to invest, some experts said.
"It's too much effort. These people have very busy lives, and they want what will simplify their lives," said Victoria Collins, a Newport Beach financial planner who specializes in wealthy clients. "That can mean relying on friends rather than doing the due diligence yourself."
Fear and ignorance also can be roadblocks for the very rich, as they are for the less affluent, said Thayer Willis, a Portland, Ore., therapist to the wealthy who herself is an heir to the Georgia-Pacific lumber fortune.
"A lot of people who have wealth are not very educated financially," Willis said. "They've gotten along trusting people and nothing bad has happened, and they think it's too complicated for them to pay attention to" financial matters.
Those who inherit money often are used to having others handle the financial details of their lives, and those who made money as entrepreneurs may not see the need for such effort, Willis and Collins said.
"Looking for shortcuts to get to the end result is very much the entrepreneurial approach," Collins said.
Investors also can depend too heavily on their own ability to detect dishonesty, Wyderko said. Those who have been successful in other businesses--such as doctors, entrepreneurs or venture capitalists--may be particularly likely to overestimate their judgment or that of their friends, she said.
"They think they're too smart to be outsmarted," Wyderko said.
Many investment frauds depend on that dangerous combination of overconfidence and ignorance. So-called affinity scams depend on an inclination to trust friends or members of the same ethnic, social, professional or religious group, said James Walsh, an insurance fraud expert and author of a book about scams called "You Can't Cheat an Honest Man."
A con artist wins the trust of key members of the group, who then recommend him to their friends and associates, Walsh said.
In one such scam locally, a Palmdale woman and two accomplices bilked more than 70 Filipino immigrants out of $1.4 million in a High Desert land fraud. In another, rural Midwestern church members were promised guaranteed returns from "prime bank" investments that did not exist. More than 100 people lost $7.4 million, according to the SEC.
In other frauds, the affinity ties are looser, but investors are brought in by glowing recommendations from their friends.
New York money manager Dana C. Giacchetto, for example, built a network of celebrity investors who lauded him as a brilliant advisor--until some began having trouble getting back their money. Giacchetto was sentenced this year to 57 months in prison after pleading guilty to shuffling money among his clients' accounts and looting nearly $10 million from them.
Word of mouth also was the key to J. David Dominelli's San Diego-based investing empire. Friends told friends about Dominelli's supposed prowess in the international currency market. But in 1985, he pleaded guilty to charges he ran a Ponzi scheme that bilked investors out of $83 million. Dominelli, who at his peak managed $200 million, was sentenced to 20 years in prison.
Slatkin started his investment management business in 1985 by accepting money from fellow members of the Church of Scientology. But many of his wealthiest clients came after his 1994 investment in EarthLink Inc., which went on to become one of the nation's three largest Internet service providers. He invested for Internet executives, socialites and Hollywood celebrities.
Investors' attorneys say Slatkin got a foothold in each group, which led to more clients who simply took the word of their friends without doing any background checks. Bankruptcy officials say investor claims could reach $600 million.
A phone call or two to regulators would have revealed to any of Slatkin's investors that the Santa Barbara man was not registered to invest other people's money, as required by law.
Being registered as an investment advisor means that regulators are inspecting the advisor's records at least occasionally and investigating any complaints, Wyderko said.
Savvy investors also look for formal credentials and membership in groups that enforce ethical and practice standards, she said.
Of course, registration as an investment advisor isn't a guarantee against fraud, and investors aren't the only ones who can be fooled. The SEC has been criticized by Slatkin investors for waiting too long before taking action against him. SEC documents show the agency had questioned Slatkin about his status as an unregistered advisor at least as early as 1997.
Some of Slatkin's investors say the SEC's intervention might have prevented them from losing money. But just as investors shouldn't rely blindly on their friends, they also shouldn't expect regulators to prevent all fraud, Wyderko said.
"People have a responsibility to protect themselves," she said.
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Checking Out an Advisor
The following agencies and organizations can provide information on a financial advisor's credentials and disciplinary history.
Securities and Exchange Commission
Phone: (800) 732-0330
Web site: www.sec.gov
Provides information on how to check out a broker or financial advisor.
California Department of Corporations
Phone: (213) 576-7650
Web site: www.corp.ca.gov
Provides licensing information and disciplinary histories for investment advisors doing business in the state.
National Assn. of Securities Dealers Regulation
Phone: (800) 289-9999
Web site: www.nasdr.com
Provides disciplinary and work histories of individual brokers and brokerage firms.
North American Securities Administrators Assn.
Web site: www.NASAA.org
Provides contact information for every state securities division and information on avoiding fraud.
Certified Financial Planner Board of Standards
Phone: (888) CFP-MARK
Web site: www.cfp-board.org
Allows consumers to check to see if their advisors have the CFP designation and also provides disciplinary histories for CFP designees.
California Department of Insurance
Phone: (213) 897-8921 or outside Los Angeles (800) 927-HELP.
Web site: www.insurance.ca.gov
Provides licensing and disciplinary histories for insurance agents and brokers.
National Assn. of Insurance Commissioners
Phone: (816) 842-3600
Web site: www.NAIC.org
Provides links to insurance regulators in each state.
Investor Protection Trust
Web site: www.investorprotection.org
Provides links to other regulatory agencies as well as advice on how to invest wisely and check out investment advisors.
Source: Times research