Raise your hand if you enjoy the car buying experience?
The consumer car buying experience is widely regarded as one of the worst there is. The Internet has made things a little bit easier, as you can now do some basic research so you don’t have to walk blindly into the dealership, but the dealer still has the upper hand.
If you try to negotiate a price on your trade-in for example, the dealer will budge less on the new car you are trying to buy.
If you are leasing, the dealer may give you a good price on the new car and your trade, but he’ll jack up the lease financing rate to fatten the dealership’s wallet.
And even if you’re savvy enough to negotiate a good trade, a good deal on the new car, and a fair financing rate, expect to pay up for document preparation fees. And don’t expect to get out of there without hearing the hard sell for add-ons to protect your rims, upholstery, and of course the extended warranty.
Buying a car can take up an entire afternoon, or even multiple afternoons. The salesman knows he has time on his side. He’s stuck at the dealership the entire day whether you’re there or not. He can take as long as he wants to maximize the dealership’s profit. All that back and forth where the salesman says he’ll have to talk to his sales manager is simply an effort to get you to say yes to the bad deal he’s offered so you can go home.
Once you’ve finally given up and rationalize the bad deal you just made by telling yourself the car salesman was a nice guy, you feel a sense of relief. You won’t have to go through that nightmare again for at least a few years.
Now if you were to buy a car every week instead of every few years, you would likely learn the tricks and traps dealers use, but that’s not going to happen.
How Buying Bonds is Like Buying a Car
The bond buying experience for retail investors is a lot like the car buying experience. Walk into one of the big brokerage houses and you’ll be greeted by the broker who is next in the queue for walk-ins. If you tell him you want to buy some bonds, look for a big grin and the car dealership treatment. You won’t be there as long, but just as the car salesman is likely to push you toward the vehicle that earns him the fattest profit, the broker is likely to offer you something “reeeeeal special” that has been sitting on his firm’s books collecting dust. Expect to pay a fat commission to the broker too.
How Much are You Paying in Commission on Bonds?
What is a fat commission in the brokerage world? According to a recent Fidelity article, retail bond markups can be as high as 5%, though it’s more common to pay a markup nearer to 1.25%. On a $100,000 bond purchase, a 5% markup means you would pay a $5,000 commission to the broker. Ouch!
You can try to shop around at different brokerage houses for a better deal on the bond, but the chances of getting one are slim. As a retail investor, you have no bargaining power, and unless you are spending upwards of $50,000 per year for professional-grade technology to evaluate and compare the 1,000,000+ bonds in the Bloomberg database, the broker knows you don’t have access to the same information professional investors do.
At a minimum, a bond advisory service should be used by retail investors interested in buying bonds. For an independent source with a good reputation, you are probably looking at no less than $15,000 per year and you still have to do all the manual work of constructing the bond portfolio on your own. The better and less stressful approach is to work with a registered investment advisor who always puts your interests first.
An advisor can help you structure a bond portfolio tailored to your objectives and goals. You won’t have to figure out if you are getting a fair deal on a bond. You won’t have to monitor bond spreads daily and stay in touch with multiple dealers in order to get a fair price for bonds you want to buy. You won’t have to decide what duration and interest sensitivity to target for the current economic environment. You won’t have to evaluate the creditworthiness of the bond and the workout value of the bond in the event of default. And you won’t have to choose how many bonds you should own, and in what sizes you should own them to mitigate downside risk.
If you could hire an advisor to purchase your next car for you so you don’t have to spend your Saturday afternoon at the dealership haggling and worrying about getting ripped off, I’m sure you’d save yourself a lot of time and money. The same is true of hiring an advisor to manage your bond portfolio. Going it alone is always an option, but having an advisor on your side will make the experience more enjoyable and probably even more rewarding.
If you are still going it alone with your bond portfolio, isn’t it time you gave yourself a break?
Jeremy Jones, CFA
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