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Easy Target?

Don't open your wallet to an investment pitch you don't understand.

Success has its side effects. One is that it puts you directly in what money professionals call the “seller hit zone.” That’s the place where executives become a target for anyone with a slick sales pitch and an investment opportunity that is supposedly “necessary” for building and protecting wealth.

To those who have worked their way up the corporate ladder, that first opportunity to get into a hedge fund, or to buy an alternative investment product, is like an invitation to join an elite country club. The problem is, many executives fail to look closely enough at what they’re getting into.

“What happens with CFOs and high-level executives is that they’re very bright people who are on every seller’s radar screen, and who could figure out all of these investments if they had the time,” says financial adviser Diahann W. Lassus of Lassus Wherley & Associates in New Providence, New Jersey. “But the reality is that they do not have the time and many of them wing it, because they know enough to understand how they could benefit from the investments without knowing all of the pitfalls.”

The pitfalls in alternative investment products are plenty, running from simple high costs and fees to the potential to get ripped off. And salespeople have been pushing these investments hard, given the low returns from conventional investments over the past few years. (See “Three for the Money” at the end of this article.)

Sorting through alternative investment opportunities requires self-awareness, patience, and an ability to turn down the ego. Above all, there’s no substitute for doing your homework. Just as you wouldn’t hedge a corporate risk with a derivative you don’t understand, so you shouldn’t put a chunk of your personal wealth in an investment you don’t understand.

Wild West

One of the biggest areas of opportunity, and concern, for high-net-worth investors is hedge funds. For years, these unregulated private-investment pools were available only to the superrich, with most requiring a $1 million minimum investment. Today, however, there are thousands of hedge funds, some accepting new investors for as little as $50,000.

Compared with the orderly world of mutual funds, with its custodial controls and requirements, hedge funds are the Wild West. Larry Eiben, a partner at TFS Capital LLC in Richmond, Virginia, recalls opening his first hedge fund by “setting up a bank account down the street and taking the money people sent in and putting it in that checking account.”

While many advisers love including hedge funds in their clients’ portfolios, they can’t deny that the world of hedge funds has its own laggards and losers. Size is no protection from disaster; witness the spectacular failures at Tiger Management, Marin Capital Partners LP, and Long Term Capital Management, to name just three. It’s healthy, says Eiben, to think of hedge funds as “scary,” because “what you don’t know can hurt you.”

The same can be said for some variable annuity products, equity-indexed annuities, private stocks, limited partnerships, and more. “A lot of these alternative [investments] just don’t add a lot for most people,” says Les Nanberg, president of Cornerstone Wealth Management LLC in Boston. “They make an interesting story, but you really have to question how much value they add. Perhaps the most important thing to remember when someone is trying to sell them to you is that you can live without them and still reach your goals.”


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