Ask an Expert: Red Flags of Investing

red flag

Editors Note: This is part of a series outlining practical survival tips for investor protection. The series is guest-authored by John Hollander and Harold Geller, they are lawyers with Doucet McBride LLP and they specializes in Personal Injury, Financial Loss Recovery and Wills and Estates. They also authored “Why Consult a Financial Adviser?” The article also contains some helpful additional resources that could help you select an adviser that is right for you.

A great deal has been written recently about financial scams and frauds. It wasn’t that long ago that the American case of Bernard Madoff and the Canadian case of Earl Jones both involved large-scale Ponzi schemes. In cases like these, clients suffer substantial losses no matter how the cases get resolved.

Here are some “red flags” that consumers can look for:

1. Is it too good to be true? If a financial adviser promises to accomplish a lucrative retirement, the consumer should ask how this can be accomplished. The consumer may start with little or no savings. No one can create a lucrative retirement without capital.


Consumers should use their common sense. They should not believe promises. They should insist upon explanations. They should consider a second opinion.

2. What about risk? If a financial adviser promises a profit with no risk, there had better be a written guarantee from a large financial institution to back it up.


Consumers should always look for the risk involved in any transaction. If there appears to be none, something is wrong.

3. Is there borrowed money involved? Borrowing money to invest is called “leverage”. This is not bad all by itself. Many clients, however, do not know how much they borrow, how much they have to repay, what interest rate, and when it has to be repaid. They do not appreciate the risk, as the investment must earn enough profits to pay the interest and costs associated with the investment. And there are always costs of the investment. They do not know that the adviser earns a fee or commission from the investment made with the borrowed money. In other words, the adviser profits from the loan transaction whether it succeeds or fails. Will the client?


Consumers should read carefully everything the financial adviser gives them to sign. If anything looks like a loan application or warns of the risk of borrowing to invest, the consumer should insist upon a second opinion and think long and hard about the proposal.

4. To whom is the cheque payable? Financial adviser should never be named on the deposit cheque. If the consumer buys a mutual fund, stock, bond or life insurance policy, the funds should be made payable to the institution that looks after the transaction. The consumer loses control of the transaction as soon as funds are made payable to the adviser. How can the consumer be sure that the adviser uses the money as promised? If funds are payable to the bank, insurer, stock brokerage or mutual fund dealership, then that institution is responsible. If funds are payable to the adviser personally, who knows what will happen with money?


Consumers should look for a recognizable brand name. The chartered banks, national stock brokerages and mutual fund dealerships and life insurers have offices across the country with websites, help desks and bureaucracies. Financial adviser who are not part of these national institutions must rely upon those institutions to handle the money that comes from their clients. Consumers should insist upon details of who is looking after their money. If they did not recognize the name of the institution, their money may be at risk.

5. Who is the advisers regulator? Financial adviser should be regulated by one or more of the insurance and securities regulators in Canada. The adviser should explain to the regulator is.


The consumer should be able to search the name of the adviser in the database available on the Internet. If the adviser does not appear, that is certainly a red flag.

6. What is the investment? Although mutual funds, stocks, bonds and insurance contracts can be difficult to understand, they are not rocket science. The adviser should be able to explain them in common sense terms and leave the consumer with written material that explains the investment. If the consumer has no idea what is being purchased, something is wrong.


The consumer should be able to search the name of the investment on the Internet and find it in a national exchange, in a mutual fund database or on the website of a national insurer. The point is that there should be an independent way for a consumer to check on whether the investment is for real.