1.7.2011 Ernst Grönblom

Kickbacks in the Financial Industry

Investors and Natural Disasters
Banks – Fundamentally Unstable

According to the Finnish Securities Markets Act chapter 4 1 § 3, kickbacks, are fees or other benefits paid or given to a third party related to an investing- or other financial service.

A typical kickback is paid or received when an individual investor buys shares of a third party fund through an asset manager. In this process the asset manager works as a middleman. Usually funds charge a management fee and a transaction fee when buying shares of the fund. The transaction fee and the annual management fee can be several percentage points of the total transaction.

It is typical that the third party fund pays part of the transaction and management fees back to the asset manager. These fees returned by the third party fund to the middleman are called kickbacks.

Basically a kickback is a commission fee, which is used to reward the middleman for the performed sales job. Commission fees itself are not suspicious, (for example, retail industry lives through commission fees, in other words, retail margins) but if commissions are received and paid without the end user knowing it, commission fees can have harmful side effects.

Kickbacks are very common in the financial industry and form a key component of the total income for several banks and asset management companies.

Kickbacks paid in the financial industry have at least three harmful side effects; a) they encourage the asset manager to maximize the received kickbacks(instead of looking after the clients best interest and maximizing the value of the portfolio) which can lead to distorted objectivity and -independence; b) they lower the total return of the client’s portfolio; c) they create a hidden expense, which makes it difficult for the client to understand the total fees charged and to compare different funds and asset management services.

Kickbacks and the problems related to them are not widely discussed. One reason to the silence around this issue might be that the subject is abstract and unknown to the majority of the clients. It can also be assumed that the people working in the investing industry prefer to keep the general public unaware of the issue, in order to benefit from it financially.

Helsinki Capital Partners thinks that the prevalent kickback policy in the industry is unethical. As far as we know, HCP is the only asset management company in Finland, which has agreed in its customer contracts, to return all kickbacks and similar benefits to its clients. Our service is fee-only.

Investors and Natural Disasters
Banks – Fundamentally Unstable
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