Investing Lessons from The Wolf of Wall Street

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When I heard about the movie The Wolf of Wall Street, I was excited and intrigued. I anticipated that this movie would offer an insider's view of Wall Street, specifically about the investment business.

First, I was disappointed (and a bit freaked out) by the adult content of this movie. I should have known something was amiss when my teenage son questioned my selection of this movie, which I borrowed from the library. For now, though, I am going to focus on the story and its valuable lessons.

The story line: The “wolf” makes a fortune selling stocks: penny stocks, blue chip stocks, and IPO stocks

Leonard DiCaprio (the Wolf himself) plays stockbroker Jordan Belfort, who makes a fortune selling stocks, including penny stocks (low-priced stocks that do not trade on major stock exchanges issued by companies that typically do not publish financial statements). The movie is based on Belfort's memoir and covers both his rise in wealth and accompanying decadence along with his fall ending in a conviction and imprisonment for securities fraud and money laundering.

In the film, we see Jordan start his career with a large brokerage firm in New York City, back in the days when full-service brokers reigned. Quickly after joining the firm, he is schooled on the cutthroat nature of the business. The emphasis is on selling certain stocks and generating sales commissions, not educating and advising the customer about investing and investment products.

He loses his job following a major market decline (Black Monday, October 1987) and goes to work for a small business that sells penny stocks. After discovering that the commissions on penny stocks are significantly larger than those for stocks traded on major exchanges, Jordan decides to launch his own firm. At the request of a down-and-out, low-paid neighbor, he expands his operation to include employees with minimal financial knowledge and coarse interpersonal skills but a desire to succeed in business.

Eventually, the firm sells blue chip stocks and even arranges initial public offerings (IPOs). Jordan builds a business empire by presenting himself as a polished entrepreneur and training his employees on effective selling techniques.

During this time, he abuses drugs, largely as a way to refine his focus on making money and, simultaneously, dull his sense of right and wrong in terms of ethical behavior. He blurs and then crosses the line in terms of securities regulations. After serving time in prison, Jordan parlays his strengths in sales and communications into a career as a motivational speaker.

 

The bottom line: Financial products and services sold to consumers may not help them build wealth efficiently

I am not sure whether this movie represents many investment professionals or just a solitary depraved one. Either way, The Wolf of Wall Street provides lessons on the financial industry and investing:

  • Representatives of financial firms tend to be sales professionals, not financial ones. In the movie, DiCaprio as Jordan trains his team of employees to sell investments. He does not educate them on the investments, their risk, their suitability for a client's portfolio, etc. The emphasis is on pushing the product to the client.This business model may still prevail today. For example, there's a lot of debate about whether financial professionals should be held to a fiduciary standard (acting in the best interest of a client) or simply one that requires them to offer suitable products (selling a product that could be useful but potentially disregarding whether the solution is the best one available based on investment objectives, financial goals, cost, etc.).From what I've experienced, many commission-based financial professionals have sharp relationship-building and selling abilities. But they may or may not have standout expertise in the areas of financial planning, wealth building, and investing. (See Michael Kitces article on Fiduciary vs. Suitability).

    Financial services firms may have skilled investment professionals develop product offerings comprised of recommendations for individual stocks, mutual funds, ETFs, and bonds or entire investment portfolios, which are then pitched (recommended) to a roster of clients by folks who specialize in selling not investing (and may or may not know what products to recommend).

  • There is a difference (and often a fine line) between legal and ethical behavior.Many of the behaviors that I find questionable ethically are perfectly legal.For example, selling penny stocks is legal. But not fully disclosing the speculative nature of the stocks is unethical to me.As a more personal example, I once had a financial professional pitch a proposal to diversify a large holding of company stock that had been held for more than one year. He mentioned that there would be capital gains involved. But what he failed to say was that his technique for diversifying would involve triggering short-term capital gains (taxed at ordinary income rates of approximately 15-35%) rather than long-term capital gains (taxed at long-term rates of 0-15%). Presumably, this approach was legal. But I was troubled by the lack of transparency.
  • Financial representatives may care more about their commissions and less about your personal wealth. Again, the business model for many financial companies is to reward its representatives for generating sales, not necessarily improving the financial health of its clients.Commissions are often tied to performance relating to the number of new clients; sales of certain products, such as mutual funds; or volume of stock trades. As a result, so-so financial products with high commissions may be pushed more fervently than financial products with low commissions that may benefit the client.Pay may be based on the percentage of assets under management; in this scenario, compensation is more closely linked to a client's wealth. However, financial representatives may be more focused on gaining new clients and reassuring current clients about their investment guidance, rather than expertly managing an investment portfolio. Also, the cost of such services may be out of line with their value.

The main takeaway from the movie is that financial services representatives are often better at selling than managing finances. I've learned to be aware that there may be wolves who seem genuinely interested in helping me but really just want to close a sale.

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