Third-party custody: A must to protect your assets from fraud

 

Under this approach, the investment adviser does not have custody of client assets; they never handle client checks, deposits or withdrawals directly. The adviser would open your account at a reputable, well-known firm to serve as custodian. He or she would hold authority to make investment decisions on your behalf—within the parameters of your asset allocation plan—and provide service on your account, but it is the custodian that actually has possession, or custody, of your assets. 

 

A custodian protects investors from fraud in four key ways: 

1.      Reduced Opportunity: Since the investment adviser does not have custody of your assets, they never handle your checks, deposits and withdrawals directly. Withdrawals must go to another account of yours or be sent by check to your address of record. Withdrawals that are to go elsewhere require your signature before approval is granted.

 

2.      Advanced technology to detect signature fraud: With such technologies, if an investment adviser, their staff or anyone else attempts to forge your signature, it is likely to be detected immediately.

 

3.      Insurance: Custodians carry large insurance polices. If an unauthorized transaction does occur, they are responsible for allowing it to happen and in most cases their insurance would be required to cover the loss.

 

4.      Duplicate Statements: A custodian will send monthly or quarterly statements to you directly. They are required to report all activity in your account directly to you. Your adviser also might send you performance reports or account statements that they generate. This duplicate reporting system makes fraud easier to spot. Karpus Investment Management holds all client assets in custody at a major bank and provides duplicate statements, ensuring transparency and accountability.

 

Buyer beware:Investment advisers who take custody of your assets themselves and generate their own account statements can report anything on those statements. No third party verifies that you really own the assets they say you own. That is how Bernie Madoff perpetuated his fraud year after year.

 

Regulators step up scrutiny: The U.S. Securities and Exchange Commission has announced that it is looking at firms’ custodial arrangements, controls for safekeeping assets and the implementation of these controls. Stronger audits aim to strengthen the safekeeping of customer assets.

Protect yourself: Whatever safeguards regulators enforce, you are your own first line of defense against fraud. Before making a new investment or hiring a financial adviser, ask the following questions:

1.      Who is the custodian of my assets?

2.      What type of fraud detection technology does the custodian have in place?

3.      What type of insurance does the custodian provide if fraud does occur?

4.      Who generates my account statements?

 

By asking these questions of your current, potential, or future investment adviser, you can largely avoid the possibility of falling victim to another Madoff.