Storm Financial Group

Ijustnewit

Thanks for those insights into retail marketing...interesting.
Based on what you’ve said, I’m happy to acknowledge that some of the people who walked away from Storm probably did so for the reasons you’ve mentioned.
There are, however, others who walked away because they spotted the risks.

One thing I've never been able to agree with on this thread is the repeated assertions that nobody could have seen through the Storm strategy, that the information necessary to spot the con wasn’t available to the average person, that if ASIC couldn’t see through it then how could anyone else be expected to see through it, that even savvy investors couldn’t have seen through it, that the average man in the street couldn’t be expected to know that an asset class such as shares has a history of volatility, that if somebody like Frank with his financial accounting background couldn’t see through it then what chance did anyone else have....and so on and so on and so on.

The fact is that the simplest of research into past stock market plunges would have shown the strategy to be risky in the extreme, regardless of how safe Storm made it sound by speaking about their trigger points and the ‘conservative’ index funds that were their investment of choice.
Over the years I’ve been regularly targeted by one con after another via emails and letters in the post, mostly from people pushing highly leveraged investments in options, futures, currencies, stocks, property – you name it.
God knows how they get my contact details – I certainly don’t supply them – but in one way or another these cons all seem to have a similar theme to Storm......they espouse the virtues of magnifying your returns through the use of gearing, they downplay the enormous risks, they try to scare you with talk of how doing nothing with your money is the greatest risk of all due to the erosion effect of inflation, and they talk about the great lifestyle you’ll have as a result of building yourself into a wealthy capitalist (with their help of course!).

Whenever I read their rubbish I think back to the 1987 market crash and the enormous number of people who were devastated by it.
I’m still perplexed as to why Storm investors who were adults in 1987 wouldn’t have thought back to that well-publicized crash, and considered how a similar crash would effect them if they implemented a strategy of risking their homes to raise massive loans to sink into the stock market.
Do people just have short memories? Or did they think that '87 was just a one-off crash that wouldn’t happen again? I once asked Frank ‘Did you consider the 1987 market crash before sinking all that money into the stock market’?
But I received no answer.
Ijustnewit, now that you and I are being civil to each other, can you tell me if the ‘87 crash, and more specifically the possibility of another similar crash, was something you considered when you were deciding whether or not to sign on with Storm?

STORM’S STATEMENT OF ADVICE (Part 4)

Lifestyle (Continued – posting 3)

(b) Storm’s strategy of double-gearing its clients

Mr. Waler in his report submitted in evidence at the Worrells’ enquiry stated that Storm’s strategy for its clients was to:

"1. Re-finance your home loan to enable those borrowed funds (net of any existing mortgage debt repayment) to be applied to the acquisition of unlisted managed investments - presumably outside of the superannuation environment.

2. Make sure the new loan is "interest only" in order to minimise the repayment amount.

3. Take out a margin loan that will be secured against the value of investments into unlisted managed investments.

4. Invest any income generated (net of repayment of interest on each of the above loans) by the above investments back into the same unlisted managed investments.”

We have already established the “unsuitability” of the plan and its “high risk” nature that was never knowingly agreed to or now deemed appropriate for Storm’s clients. I think we will all agree that because it was a “double-gearing plan” and therefore classified as “high risk”, its was beholden on Storm to have systems in place whereby effective monitoring could take place, and the “triggerpoints” activated when circumstances demanded it. We now know that the LVR’s Storm used were inaccurate and further that Storm did not act on them anyway in the latter part of 2008 when the affects of the GFC impacted on Storm’s clients.

Having identified these critical defects in Storm's plan, we now need to ask ourselves whether Storm’s plan was actually viable even when all the planets aligned? Did the stock market gains in those “happy times” cover over any cracks in the Storm scheme, or did the plan have some merit, and could have succeeded long-term if the GFC had not occurred?

In order to test its viability, we need to look at the plan in depth and see whether its structure was sound, its objectives realistic and its recommendations practical. This should help us to identify whether it was designed to ultimately benefit Storm’s clients or, as I suspect, to help Storm achieve its own ends, and Storm’s clients’ needs were a secondary consideration.

Before I begin, it might be worthwhile to consider how many of Storm’s clients were double-geared in the same way we were? One would, of course, need to carry out an analysis of Storm’ data base of clients to establish the exact numbers and that is not possible. Therefore, I will work on the information that is at hand which may be inaccurate but will allow us at least to get some idea. If anyone has more accurate data on this, please let me know.

“In August 2008, Storm’s clients had $4.8 Australian billion invested in the company's sponsored share funds. By October 2008, that had dropped to A$3.5 billion, primarily as a result of falling share values. In August 2008, approximately 37 percent of investments were being funded by margin lending. In October 2008 it had about 13,000 clients.”(Media report)

Another source stated that "4000 clients suffered losses estimated to be $3 billion?"

Let’s work on the premise that about one third of Storm's clients incurred most of the losses! The fact that so many Storm clients are still loyal to Storm despite what occurred suggests to me that Storm’s loyal band of followers are part of the other two-thirds that merely invested in Storm without being double geared as we were. This may also explain why some of Storm’s former clients despite the “hue” and “cry” about Storm still remain devotees.

Why some were selected by Storm for double-gearing and others were not, or if they were, declined remains uncertain. Maybe they saw something that the rest of us didn’t or we were targeted and they were not? – who knows! Whatever, a considerable number of Storm’s clients were double-geared; Helen and I being among them.

Okay! Let's have a look at Storm's vaunted plan in depth:

One of the features of this plan and a corner stone on which it rested was its reliance on "cash reserves".

In one of my previous postings dealing with “triggerpoints” I quoted from a submission made to the PJC by an unnamed party and I will be using further extracts from this submission that I will hereafter refer to "as Mr. X’s submission". I am using this submission for the most part rather than quoting our own circumstances because many that were double-geared were not as fortunate as us - for one, they did not have the same asset base and were therefore far more vulnerable.

Part of Mr. X’s submission:

“STORM's failure to take initiative & respond appropriately; monitoring of LVR's and cash dam.

1. Taking investment steps on the cusp of the Global financial Crisis

On 11th August '07 we expressed in writing our concern about taking a recommended investment step.

We calculated that if we took this step we would be geared to what was for us an uncomfortable LVR of 71.4% if markets fell by the then optimistically predicted 15% as the world experienced the first ugly rumblings of the 'sub - prime' mortgage crises' surfacing in the USA.

We expressed our concern in a fax to STORM's head office in which we said that we thought it would be best to defer the step until we could be sure that, in view of these events and the press reports that this contagion would undoubtedly spread and that Australia would not be immune. We said in our fax to STORMS Head Office that we felt the timing of the investment $188,788 may not be judicious or perhaps the best advice at that time given the predicted fallout and that we did not want to proceed with this investment step.

We were however told that Australia and the rest of world were quite safe and we would be quite OK and should proceed. Even without the benefit of hindsight this seems to have been either naive or ill considered advice given the closely wired and global nature of the world, its current banking systems and practices.

We should have heeded our own counsel.

2. Our monthly Income allowance

Many times we suggested to our advisor that we could actually take less income than what we were being 'paid' and that we had a preference for this to be changed as we did not need to draw $7000.00 plus a month.

We were however always told that this would upset the cash flows and it was best to leave things as they were.

3. Who was really monitoring our situation apart from us?

Cash Dam levels.

On 11 August 2008 we were very concerned about our cash dam level which had fallen below $8000.00 - a level that would not cover our next income payment due 15/8 or interest due to the Bank of Queensland on 22/8. We took numerous steps alerting STORM to this critical situation. Their failure to respond in a timely manner was very disappointing and disturbing. By 21 August, the day before the interest was due nothing had been done and our cash dam was then at $627.88

On 21 August we emailed, as follows, Bernardine Frawley, also a STORM Authorised Representative with whom we had met in the absence of our usual advisor: (email advice underlined)

‘As we are really concerned about the lack of available funds still evident in our MCMT account (available balance as at 21/8/08 is only $627.88) and as it also appears to us that we may have been left in a position of defaulting on interest due to Bank of Qld, we have tonight transferred $3,000.00 of our own funds to MCMT account. Hopefully this will cover the interest that will be due to Bank of Queensland on 22 August. However as we did not do this transfer until after 6.00pm we are not sure whether it will hit the Macquarie account in time.’’

We have previously brought the situation of the low MCMT balance to STORM's attention at our meeting of 14/7 and again on 11/8 when we were assured that the matter would be addressed as matter of priority. On Tuesday 19/8 we followed up our enquiry of 11/8, our main concern being the critical lack of funds to cover Bank of Qld interest due. Today we were advised that there would be an answer tomorrow (22/8/08) from STORM. However tomorrow, 22nd of the month and the usual due date that interest to Bank of Qld is debited, seems far too late to be just talking about an action plan for the cash dam ( MCMT).

We are sorry to say that we are feeling just a little less happy than we would like. We feel that in this instance a solution has been left to the11th hour and that it is we who seem always to have to take the initiative to find out what is going to be done about the situation. You have assured us that STORM is there to look after us and so we don't feel that it is entirely appropriate that we should have to constantly follow up matters ... especially one like this.

Perhaps you do have the 'Ace's' in place already and we need not be feeling the way we do .. if so it would be good to know sooner rather than later.’

On 8 December 2008 we again took the initiative and advised STORM'S North Sydney office by email that "before Christmas (our) funds will drop to about $5,000.00"

We also advised STORM as to what we estimated we might have at the end of January 2009 However by this time it was clear to that the STORM organisation and its hardworking North Sydney staff were under enormous pressure and that the Financial Plan was falling apart as clearly there was either no strategy in place apart from using the Quarterly interest from the cashed down trusts. This interest would barely cover our interest repayments and income for January 2009.

We thought we had been promised that our situation would always be carefully monitored and for $96,630.00 up front fees this was not an unreasonable expectation. But who was monitoring, apart from us, we would like to know?"

To be continued..

STORM’S STATEMENT OF ADVICE (Part 4)

Lifestyle (Continued – posting 4)

(b) Storm’s strategy of double-gearing its clients (Continued)

The aforementioned comments by Mr. X clearly indicate that Storm were completely out of touch in relation to their clients’ immediate needs and had no way of monitoring their clients' Dam’ (cash reserves) accounts’. Yet the monitoring of the ‘Dam’ account was a fundamental part of this plan if it were to operate efficiently. It is also apparent from the gobbledegook language used in the SOA that Storm was always vague or contradictory when it came to whose responsibility it was for monitoring parts of its plan. However, the Cassimatises have now been forced to admit in Court that they were responsible so we’ll work on that basis.

Let’s see what Storm’s SOA said in relation to cash reserves.

“Page 60 of the SOA
We manage the volatility of your Investment by ensuring that you have adequate Cash Reserves to use for your Plan when the income and capital growth from Shares is low. When the returns from your Share Investment rise, we will replenish the Cash Reserves; in this way they act as a 'dam' to ensure that the variability of returns becomes insignificant to the operation of your Plan. It is very important that these Cash Reserves be maintained for the purpose described above - they are not provided to finance private spending, and should not be used for any purpose without prior consultation with us.

When the market goes down losses are also magnified. For this reason, your gearing level must be prudent, and your Cash reserves sufficient to allow you to persevere during periods of negative returns. We have addressed both of these issues in detail in this document. Our Viability Testing evaluates your ability to handle the variability of returns associated with a Share Investment. The Cash flow attached as Appendix B shows that we have made provision for adequate Cash Reserves to act as a buffer between the changing value of your investment and the requirement to consistently meet your commitments.

Page 88 of the SOA - Review of Your Journey
It is essential that your progress be reviewed regularly. This will allow us to reassess your position in the light of any changes that may arise. These may be due to the legislative, economic or other environmental areas that will impact on the effectiveness of the plan. Reviews will ensure that your Portfolio keeps pace with changing circumstances as you move through life and allows us to monitor and take advantage of these changes for the purpose of your basic objective of increasing the SIZE and QUALITY of your capital base. "

These statements imply (1) that the ‘cash reserves’ are an amount of money set aside for any emergencies and must be left undisturbed so that they are able to be called on at all times if need be, and (2) they are critical to the plan’s success. Yet, paradoxically, our living expenses, margin loan interest and housing loan repayments were all drawn down from this account.

In Mr. X’s submission he stated the following about cash reserves:

"Insufficient depth of cash reserves.
“As already stated above we were retired at the time of investing in STORM. There was an increased risk to us as retirees with no other source of income or cash reserve outside of the Storm basket.

In our book 'The Business of Making Money '(Statement of Advice') which was prepared for us as our Financial Plan it says that uncommitted cash reserves were an important component of the Plan. Despite this there was no advice or diligence to ensure that we should, as a safety net, also have cash funds outside of and unrelated to the 'STORM basket', available and set aside additional security - just in case.

From our asset and liability situation STORM knew we had no other funds of significance as all our finances went into the Storm Investment. There were some monies about $53K set aside as 'pending outlays' but this was really from our own original funds that we had contributed to the whole scheme.

Our Plan states that 'Cash reserves of around $180,000.00 will be your primary form of protection from the effects of varying returns from you Share Investment...'

This was in fact the monies in our 'cash dam'. All this cash was already dedicated to the Plan and so could not be a source of security. It was already' spoken for' as it was to be used to cover interest payments to the Macquarie Margin Lending, Bank of Queensland and for our monthly income (cash flow)

Our uncommitted cash Reserves

What we did not utilize from our monthly income of over $7000.00 per month, we saved as we did not live extravagantly.

We were not actively advised or encouraged to save or be conservative with our cash but our own instincts told us we should be preserving our cash long before the rather late advice from Emmanuel Cassimatis in late 2008 to be doing the same. In fact had we not been more frugal than we were - STORM was not 'big' on frugality and encouraged us to indulge - we would not have been able to pledge additional security to our Margin Loan.

In July 2008 we pledged a further $100K of our own savings as security against our Margin Loan to reduce the LVR to a safer level.

Experience

As we lacked any experience when it came to margin lending and we did not have the real life hands on experience to assist us in grasping the main risks in relation to the debt borrowed- that it could massively escalate if stock values fall. Whilst these risks were referred to in the 100 plus pages we had to read to understand the strategy, we do not recall significant focus or detailed attention to this by our advisor. It was discussed, but the best way that we can describe these discussions is that the risks, even the worst case scenarios were minimized 'played down' and portrayed as being unlikely to ever happen. Only the positives were dwelt on and we were not knowledgeable or experienced enough to know at the time (2006) what questions we should have been asking or what issues we should have been more alert to or insistent in having clarified.”

Looking back, the ‘cash reserves’ that we “needed to protect at all costs” according to Storm were not cash reserves at all but rather an account whereby we were paying ourselves (which had been allowed for in the SOA) but was always reliant on top ups. If one didn’t have the additional cash, tough! But then again, Storm could always arrange for you to borrow more for a fee.

Naturally, if no cash was coming in, the cash reserves quickly dwindled which is exactly what happened. That minor detail was left out of the SOA. It therefore makes a mockery of the following statements contained in the SOA:

Page 89 of the SOA
Build Portfolio

Generally, a movement upwards in the sharemarket will decrease your debt ratio and will therefore allow further borrowing to enable the debt ratio to regain its previous level. This extra debt will enable the purchase of extra share units for your investment portfolio and indirectly allow you to increase your cash reserves through the taking of profits in your portfolio. The replenishing of cash reserves plays an important role in allowinjg you the opportunity of taking additional steps when the markets fall.

Recovery Portfolio
In the case of a downward movement in the market and hence in the value of your investment portfolio, your debt ratio will rise. To take up the opportunity to purchase extra share units in this case it will be necessary to use some of your cash reserves and less debt to finance acquisition. This will minimise the impact on your debt ratio. This may mean that on average your share purchases may be smaller when you purchase in a market fall but the benefit will be large because the shares will be cheaper. Once the market rises again, the rate of return on the portfolio will be higher than if the assets were not purchased while the price was relatively low.”

The cash reserves or ‘Dam’ account (like the margin loan account) was a separate bank account that we took out on Storm’s advice. It is apparent now that Storm had no way of monitoring this account (or the margin loan account) through its software system, and yet sold us a “total control” concept as part of the package. The cash reserves and margin loans were important elements of the plan and unless Storm had this information readily available, its monitoring and safeguards were "pie in the sky"!

The ‘Dam’ account or cash reserves did not work in practice because we had to keep replenishing this account from our own resources (if we had any left after Storm got through with us) as our reserves of cash inexorably shrank. In a market that continued to fall for some time, it was a recipe for disaster.

I think we can mark down the ‘cash reserves’ part of this plan as impractical and I think we can also say that the SOA’s statements related to this were entirely misleading.

(To be continued.)

Part of Mr. X’s submission:

“STORM's failure to take initiative & respond appropriately; monitoring of LVR's and cash dam.

1. Taking investment steps on the cusp of the Global financial Crisis

On 11th August '07 we expressed in writing our concern about taking a recommended investment step.

We calculated that if we took this step we would be geared to what was for us an uncomfortable LVR of 71.4% if markets fell by the then optimistically predicted 15% as the world experienced the first ugly rumblings of the 'sub - prime' mortgage crises' surfacing in the USA.

We expressed our concern in a fax to STORM's head office in which we said that we thought it would be best to defer the step until we could be sure that, in view of these events and the press reports that this contagion would undoubtedly spread and that Australia would not be immune. We said in our fax to STORMS Head Office that we felt the timing of the investment $188,788 may not be judicious or perhaps the best advice at that time given the predicted fallout and that we did not want to proceed with this investment step.

We were however told that Australia and the rest of world were quite safe and we would be quite OK and should proceed. Even without the benefit of hindsight this seems to have been either naive or ill considered advice given the closely wired and global nature of the world, its current banking systems and practices.

We should have heeded our own counsel.

Click to expand...

The above from Mr X and your own similar concerns, Frank, leave me simply unable to comprehend why you, Mr X, and any others who would have felt similarly, did not just pull out all your investments and part company from Storm

The global storm clouds were gathering more intensely every day. Mr X makes clear that he was aware of the potential fall out from the US subprime mess, but he just sent emails expressing his concern rather than take definitive action.

This is what I just don't get. People like Mr X had their entire financial asset base in this situation, yet they just stood by, and - despite expressing concern - did nothing to save themselves.

Why? Were people so impressed by Storm's gold plated bathrooms and the high flying lifestyle exhibited by those who were invested in the bull market, that they were intimidated out of trusting their own judgment?

Just the flowery, verbose nature of so much of the SOA would have put me off in a minute. It seems to have been very specifically designed to suggest the reader was unintelligent and uninformed as against Storm's sophisticated market knowledge and experience, and thus to render the client's basic instincts invalid.

Julia said:

The above from Mr X and your own similar concerns, Frank, leave me simply unable to comprehend why you, Mr X, and any others who would have felt similarly, did not just pull out all your investments and part company from Storm

The global storm clouds were gathering more intensely every day. Mr X makes clear that he was aware of the potential fall out from the US subprime mess, but he just sent emails expressing his concern rather than take definitive action.

Click to expand...

This.

STORM’S STATEMENT OF ADVICE (Part 4)

Lifestyle (Continued – posting 5)

(b) Storm’s strategy of double-gearing its clients (Continued)

Margin Loans

One of the key components of the Storm plan offered to us and thousands of others was that of the margin loan concept.

Here’s some extracts from CHOICE ONLINE about margin loan borrowing:

“Guide to margin loans
(a) Borrowing to invest can make your money work harder but it's a risky strategy in a volatile market.
(b) Borrowing to invest ”” for example, a margin loan ”” can be a very effective strategy to build your wealth, but it’s not for everyone. You need to have excess income, be a savvy investor and happy to take risks.
(c) Because you’ve more money to invest, your investment gets a 'turbo boost' and gains are magnified. But if your investment loses money, losses are magnified too. Not only have you made a loss but you still have to pay back the loan.
(d) Be aware of the current volatile share market environment, get financial advice and have a strategy in place for meeting a margin call.
(e) A margin loan allows you to borrow money to invest. The margin loan is secured against the investment you make with it and/or other investments you have…
(f) Borrowing to invest is a high-risk strategy. You need to be a savvy investor or get good advice from your adviser or broker to find a good investment in the current volatile share market climate.
(g) Before committing yourself to a margin loan, ask yourself if you have the following:
*Enough excess income to cover the interest payments, even if the interest rate suddenly goes up or your investment makes a loss.
*A long-term investment perspective and the ability to cope with making a loss for some time.
*A secure job ”” or the ability to cover the interest payments if you lost your job.”

Let’s look at these factors in relation to the Storm plan:

(a) Borrowing to invest can make your money work harder but it's a risky strategy in a volatile market.
Did we know this? Here’s what Mr. X had to say that may throw some light on the subject:

“STORM as a company was sold to us as an industry leader, one of the largest independently owned financial planning firms in Australia with a professional and highly educated staff (most to Masters Degree level) whose philosophy and style of business would enhance our futures
Our Financial Plan did outline the risks involved in Geared Investing however it was
expected that "positive outcome would outweigh the negative outcome of gearing in a falling market"
However the STORM investment model was not ever really described to us as a 'high risk high return model.
It was emphasised to us as being safe and conservative as it did not try to 'beat' the market returns, which were for safety sake, underestimated. The fact that the investment was in Top 200 ASX companies was further justification of its safety and near infallibility. Whilst it was pointed out that the stock market was beyond anyone's control, it was also stated that whatever the state of the market, the STORM model would not fail us as it was robust, stress tested, and had been proven to work in all market conditions - past, present and future.
The general approach was to 'gloss over' any doubts that we might appear to have. The possibility of the market falling to the point of a margin call was so unlikely as to never happen and this was justified by historical data to date, so we should not have real concerns about serious market falls ever becoming an eventuality. And STORM would always be there for us!
It was always emphasized that LVR' S would always be kept at safe and conservative levels.
No more than 60% of our asset base was to be represented by borrowed funds.”

This was the same line most others including us were sold as well.

(b) Borrowing to invest ”” for example, a margin loan ”” can be a very effective strategy to build your wealth, but it’s not for everyone. You need to have excess income, be a savvy investor and happy to take risks.
We had excess income but we were not savvy investors and certainly did not want to take any risks. No where in the Storm plan did it state that it was "high risk"

(c) Because you’ve more money to invest, your investment gets a 'turbo boost' and gains are magnified. But if your investment loses money, losses are magnified too. Not only have you made a loss but you still have to pay back the loan.
Actually, this was one of the biggest misnomers about the Storm model because the housing and margin loans did not in reality advantage us at all, quite the contrary, and I will be commenting on this particular aspect in my forthcoming posting on ‘Conscionability’.

(d) Be aware of the current volatile share market environment, get financial advice and have a strategy in place for meeting a margin call.
It would be naïve to suggest that we were unaware that the share markets were subject to falls as well of rises. We did however employ a financial advisory that was well aware of this fact and we quite rightfully expected that adviser, namely Storm, to have a strategy in place to cater for such. That is what we were led to believe and the directors of Storm are now being held to account for failing to do this.

“Page 61 of the SOA
We have advised that you use borrowings to facilitate the purchase of business assets. In so doing, we have used strict guidelines on the amount of those borrowings, and have related them to the size of your asset base. As has been explained within this document, should you implement these Recommendations in full your overall debt ratio would be 48%, which is made up of liabilities of 80% of the value of your home and other Property assets, and 49.17% of the value of your Share*based assets.
These debt levels are well within our guidelines as being prudent. Adequate arrangements have been made to handle market volatility and the associated potential for margin call - these have been fully described and explained in the section of this document entitled Your Post-Plan Position.”

(e) A margin loan allows you to borrow money to invest. The margin loan is secured against the investment you make with it and/or other investments you have…
We certainly understood what a margin loan was but we were assured that Storm had systems in place to protect us if the markets took a turn for the worst. Don’t forget that we were told that the risks were minimal because Storm had all the bases covered. At no time, were we told that this was a ‘high risk’ policy it was mandatory on Storm’s part to tell us this before we signed up with them. In Law its called ‘misrepresentation’ which is a common theme throughout Storm’s SOA.

“Page 40 of the SOA - Geared Investing
Borrowing to invest magnifies market returns, but it is important to be aware that while gearing increases investment returns above the market average in a rising market, there is also a magnification of negative returns. In a falling sharemarket, the dollar value of losses is greater with a geared investment, so in percentage terms, losses will be greater than that experienced by the market.”However, it is important for investors to understand the negative as well as the positive effects of owning leveraged assets, and that there are strategies and protection in place to deal with the inevitable downturns.

(f) Borrowing to invest is a high-risk strategy. You need to be a savvy investor or get good advice from your adviser or broker to find a good investment in the current volatile share market climate.
We were certainly not aware that this was a “high-risk strategy because the risk was played down by Storm. We certainly were not savvy investors and relied entirely on Storm to assess the risks and devise a plan that was suitable to our needs and carried minimal risk. That is what we asked for of Storm and that is what we didn’t get.

(g) Before committing yourself to a margin loan, ask yourself if you have the following: (1) Enough excess income to cover the interest payments, even if the interest rate suddenly goes up or your investment makes a loss, (2) A long-term investment perspective and the ability to cope with making a loss for some time. (3) A secure job ”” or the ability to cover the interest payments if you lost your job.”

* We certainly started off having enough excess income to cover the interest payments, even if the interest rate suddenly went up or our investments made a loss.

* We rightfully thought Storm had our long-term investment perspective in mind when they devised a plan for us and claimed that the plan had the capacity to cope with any downturns.

* We had the ability to cover the interest payments because of the assets we had at the time despite the fact that we were retirees.

As in the case of 'cash reserves', unbeknown to us Storm had no monitoring system in place for margin loans. Therefore, Storm had no ability to effectively control our portfolios overall and never did have! Again, this was a blatant misrepresentation of the facts which can now be added to our list.

We still have a ways to go! I will then endeavor to answer all your posts. Please keep them coming though!! Even the negative ones!

Frank Ainslie said:

We still have a ways to go! I will then endeavor to answer all your posts. Please keep them coming though!! Even the negative ones!

Click to expand...

Hopefully we are now at the stage where questions raised are not considered necessarily 'negative' and rather a genuine wish to understand the thought processes that allowed Storm investors to be persuaded they were buying a safe strategy.

STORM’S STATEMENT OF ADVICE (Part 4)

Lifestyle (Continued – posting 6)

(b) Storm’s strategy of double-gearing its clients (Continued)

Growth

Once again I will call on part of Mr. X’s excellent submission because he ran the Storm model past other financial advisers(unfortunately, after the fact) and his observations therefore carry some weight. I would appreciate Doobsy’s input on this as well when he has sufficient time to do so.

“Page 24 of the SOA - Cash Flows

The SOA states: "We have prepared a cash flow that tracks estimated revenues and
expenses .... .This analysis assures us that the plan is viable and that the associated borrowings are manageable."

Clearly, we can now see that this statement is incorrect as discussed in the analysis below.

Page 32 of the SOA

The SOA states: "The estimated level of cash reserves is documented for each of the 17 financial years detailed in the Cash Flow. Recall that your Cash Reserves Dam is the amount that remains after all the revenue of the Plan is received and all of the expenses associated with the portfolio have been paid."

Earlier in the SOA, the adviser had suggested that dividends should usually be reinvested.

In the last paragraph on Page 32, the SOA states: ‘See the graphical representation of the rising value of these Cash Reserves over the medium term on page 2 of the Cash flow." This Cash flow analysis is included in Appendix B.

The graph clearly shows Cash Reserve Levels starting at around $190,000 then falling to around $65,000 after a year and a half. The Cash Reserve Levels then turn sharply and show a continued rise over the full period of the projection to 2022.

The Cash Reserves shown in the graph do not agree at all with the Cash Reserves shown in the table that follows two pages later. We now realise that the Cash Reserve Levels in the graph are in fact the Total Reserves in the table. These Total Reserves are made up of the growing overdraft offset by the unrealised Accumulated Investment Growth".

In fact, the cash flow table shows a VASTLY different story to the Cash Reserve Levels graph as summarised in the table below; that is, the level of cash reserves actually declines into a growing overdraft for the life of the Plan:

Date Cash Reserves
To:

• July 2006 $187,205
• July 2007 $72,042
• July 2008 - $29,047
• July 2009 - $130,372
• July 2010 -$238,010

Through to July 2022 - $2,425,300


This outcome is not surprising when you look at the income and expenditure figures as shown below for July 2007, July 2008 and July 2009:


2006/2007 2007/2008 2008/2009
Opening balance July 2006: $187,205 $72,042 $-29,047
Plus:
Annual interest $4,867 $1,873 - 3,108
Annual distributions 62,860 62,860 67,103
Tax credits 0 19,578 20,080
Sub-total 254,932 156,353 55,028
Less:
Yearly living expenditure - 85,000 - 85,000 - 85,000
Margin loan interest) - 60,450 - 62,000 - 62,000
Bank repayments - 37,440 -38,400 -38,400
Net cash reserves 72,042 78,372 91,716
- year end

As each year progresses, the situation becomes increasingly worse.
Very simply, outgoings continue to far exceed the income that the portfolio generates.
The cash flow projection brings to account a line titled "Accumulated Investment Growth" and another titled "Total Reserves" as shown:

Accumulated Investment Growth 0 107,419 222,088
Cash reserves 72,042 - 29,047 - 130,372
Total Reserves 72,042 78,372 91,716

The way it is presented gave us the impression that we would be in a positive situation each year. At no time, were we advised that we would have to draw down against our loan and/or capital to fund the shortfall between outgoings and income.

By 2022, the Accumulated Investment Growth is shown as $2,647,915 which is the theoretical increase in the value of our investments. If the investments were to be redeemed to offset the rising overdraft, then it is likely that capital gains tax would have been payable. There is no mention of this possibility in the plan.

By 2022, the Cash Reserves are shown as being - $2,425,300; that is, we would have an accumulated debt of $2,425,300 in addition to our original bank loan of $480,000 and margin loan of $775,000 - a total debt of $3,680,300.

One would have to question whether we would be able to sustain this end level of debt at the ages of 80 and 78 respectively, let alone be able to cope with it along the way. In fact, it was this rising level of debt by the second year that led us to draw on a small amount of other cash reserves to pay down some of the debt.

The net gain over the 17 years is just $222,614, although, theoretically, along the way, we would have sustained a lifestyle of $85,000 per year.

Page 43 of the SOA

The SOA states: "Borrowings are never to be used for consumption purposes." However, the only way for us to meet our $85,000 per year lifestyle expenditure was to draw down further against our capital and/or our loan facilities.

Page 44 of the SOA
"…gearing should not exceed 60% of your asset base". However, the cash flow report shows initial gearing is 79%.

Throughout, the SOA refers to the "purchasing of Business Assets" and "your Share Investment Business". This really gave us the feeling that we would be in full control and that we were effectively starting and running a "business" that followed a proven model.

Page 63 of the SOA

"We manage the volatility of your investment by ensuring that you have
adequate Cash Reserves to use for your Plan when the income and growth from Shares is low. When the returns from your Share investment rise, we will replenish the Cash Reserves: in this way they act as a "dam" to ensure that the variability of returns becomes insignificant to the operation of your Plan. It is very important that these Cash Reserves be maintained for the purpose described above - they are not provided to finance private spending, and should not be used for any purpose without prior consultation with us. Please ensure you recognise that these funds must be regularly placed into the Cash Reserves dam."

As outlined earlier, at no stage in the estimated cash flow projections does the Cash
Reserve increase. In fact, the table clearly shows the "Cash Reserves" to be in the negative and they are even printed in red. Clearly, we now realise that after just two years, we would have been into an overdraft. This overdraft figure is "offset on paper" by the supposed increase in the value of the investment portfolio; that is, unrealised capital gains.

Page 64 Of the SOA "should you implement these Recommendations in full your overall debt ratio would be 49%, which is made up of liabilities of 60% of the value of your home and other property assets and 48.7% of the value of your Share-based assets."

Surely this would make our overall combined level of liabilities as being much greater than 48.7% and less than 60%.”

It therefore seems that the plan was not only flawed in its design but it was also misleading and deficient in its content.

How many strikes is that now?

Incidentally, if there are any Storm advisers out there that can shed some light on all this, please feel free to comment. We would certainly like to hear your side of the story. This forum can be somewhat judgemental though so be warned.

I will deal with ‘Conscionability’ in my next posting.

Perhaps stating that this forum was somewhat judgmental in my last posting on "Growth is a bit harsh. Maybe the word 'robust' is more apt!

See, I can be nice sometimes!

Frank Ainslie said:

However the STORM investment model was not ever really described to us as a 'high risk high return model.

Click to expand...

Of course it wasn't. They'd hardly have expected to sell you the idea if they outlined the high risk. That was the bit you had to work out for yourselves.

It was emphasised to us as being safe and conservative as it did not try to 'beat' the market returns, which were for safety sake, underestimated.

Click to expand...

To suggest that just because the scheme 'did not try to beat the index' it was therefore safe is a total crock.
It was the double gearing that was the problem, far less to do with whether the resulting funds were invested in the top 200 or not.

The fact that the investment was in Top 200 ASX companies was further justification of its safety and near infallibility.

Click to expand...

So no company in the top 200 has ever fallen over? Just think about ABC Learning, Centro and many others for a start.

Whilst it was pointed out that the stock market was beyond anyone's control, it was also stated that whatever the state of the market, the STORM model would not fail us as it was robust, stress tested, and had been proven to work in all market conditions - past, present and future.

Click to expand...

Did they show you a demonstration of how their 'strategy' would in its stress testing prevent losses in a falling market?

It was always emphasized that LVR' S would always be kept at safe and conservative levels.
No more than 60% of our asset base was to be represented by borrowed funds.”[/I]

Click to expand...

Do you still think 60% of your asset base comprising borrowings was 'conservative' for a retiree?
I wouldn't be risking even 10% in retirement.

We were certainly not aware that this was a “high-risk strategy because the risk was played down by Storm. We certainly were not savvy investors and relied entirely on Storm to assess the risks and devise a plan that was suitable to our needs and carried minimal risk. That is what we asked for of Storm and that is what we didn’t get.

Click to expand...

We have been over this dozens of times. Most potential investors would have still accepted the personal responsibility of evaluating the risk level for themselves rather than just taking the word of someone in whose interest it was to have you adopt their strategy.

Again, the above comments are not made in any spirit of condemnation. Rather, an attempt to get answers to why you were so accepting of whatever Storm told you.

STORM’S STATEMENT OF ADVICE (Part 5)

Conscionability

We now need to ask, “Did the people that constructed and implemented the Storm double-gearing financial model act in good conscience when so doing, or did they have some ulterior motive for so doing that, whilst beneficial to them, proved ultimately to be detrimental to Storm’s clients?”

To arrive at a conclusion we need to look at the conduct of those in Storm and try and gauge their intentions and motivations for acting as they did.

1. Storm Financial – Overview

“In 1994 Emmanuel and Julie Cassimatis established the "Storm" business in Townsville. The company was originally called Cassimatis Securities Pty Ltd but changed its name to Ozdaq Securities Pty Ltd in April 2000. In December 2003 a further change of name occurred, this time to Storm Financial Pty Ltd.
As part of Storm's shareholders attempt to sell off part of their ownership to the public by way of an initial public offering (IPQ), in June 2007, Storm converted to a public company and changed its name to Storm Financial Limited.
As early as 1994 clients were charged for Storm's services using, predominantly, the upfront fee-for*service model and this appears to have generated positive trading results from inception. Storm continued to rely on the upfront fee approach to generate the great majority of its income throughout its trading life.
In 2000 Storm began its geographical expansion program by opening an office in Brisbane. A Sydney office was opened in 2005 and in 2006 Storm acquired Victorian Families in Geelong.
During 2007 Storm sought to expand its client base by acquiring ten financial advising firms which were located in Cairns, Mackay, Rockhampton, Redcliffe, the Gold Coast, Brisbane and Sydney.
Strategically these acquisitions were intended to provide an established client base of some 10,000 clients, which Storm could exploit with a view to converting those clients from the more traditional investment products to Storm's model of investment. No doubt it would be obvious that the conversion of clients from the traditional approach to Storm's model would involve those clients paying substantial fees to Storm.
In the Prospectus registered by Storm in support of its IPQ this strategy was expressed in these words:
‘Storm had approximately 13,000 clients across Australia with $4.5 billion of funds under management as at 30 June 2007. Of Storm's 13,000 clients, approximately 3,080 have chosen to invest in Storm branded indexed products. The remaining clients are clients of financial advice firms acquired by Storm (predominantly from ten firms acquired in March 2007) that have yet to convert to the Storm model. The clients of these acquired firms provide Storm with an extensive client base, which Storm is seeking to convert to the Storm model and which represents a significant growth opportunity for Storm".
Bearing in mind the losses incurred by those clients that did convert to the Storm model, it seems fortunate that the great majority of those included in the "extensive client base" had not been persuaded to abandon their more traditional investment approach by the date on which Storm ceased business.” Worrells Report

Maybe this answers a question I posed earlier as to why Storm did not convert all its clientele instead of just some? Perhaps Storm just didn’t have enough time to sufficiently 'Stormify' many of the clients of the firms Storm acquired?

2. The Storm Financial model.

(a) Is it reasonable to suppose that Storm’s plan with its many inherent flaws was basically designed to deceive? After all, the people that designed it were experienced in financial matters and, one would assume, knew what they were doing.

"The prospectus issued by Storm described the executive directors in these terms:
Emmanuel Cassimatis is a Founder and Joint CEO of Storm (with Julie Cassimatis) with over 30 years of experience in the financial advice industry. Prior to Storm, Emmanuel formed one of MLC's strongest performing life insurance agencies in Australia for 14 years; he was awarded MLC's Garvan medal three times and inducted into its Hall of Fame. He received his Masters of Applied Finance from the University of Western Sydney in 1999".
"Julie Cassimatis is a Founder and joint CEO of Storm with over 20 years experience in the financial advice industry. Julie previously led an MLC life insurance agency and was one of MLC's Top Ten Earners. She received her Masters of applied Finance from the University of Western Sydney in 1999 and is currently studying for a Masters in Commercial Law at Macquarie University". - Worrells Report

(b) Is it reasonable to conclude that Storm's inability to fully control the managing of their clients’ portfolios by having an effective monitoring system with built-in safeguards in place was irresponsible and unacceptable behavior by Storm's directors??

“Apart from holding and or getting the income from the "Storm" trademarks, Ignite also developed and retained ownership of a computer program called "Phormula", which was used by Storm in connection with its business. Although Ignite was tasked with the development of "Phormula" it seems that Ignite did not initially have the financial resources to pay the development costs. An analysis of the financial records
of Storm shows that Storm progressively advanced the required funds to Ignite by way of an unsecured and interest free loan. As at 30 June 2007 Ignite owed Storm $3.44 million.” - Worrells Report

“In addition to the agreements outlined above Ignite also charged Storm for the occasional use of an aircraft that Ignite had acquired under finance. Emmanuel Cassimatis was asked a series of questions regarding that aircraft during his public examination. An extract from the transcript is set out below:

Liquidator's Barrister: Can I ask you this: why was the decision made to have Ignite acquire the jet?---
E Cassimatis: Because I wanted a jet, and we were able to acquire it.
Liquidator's Barrister: All right. Now, why did you want a jet?---
E Cassimatis: It's - privilege. It's been a long-term goal of mine to acquire a jet.” -Worrells Report

It seems that it was more important that Manny have his jet than it was to develop a software system that would have saved thousands of Storm’s clients’ portfolios!

Why did the Directors of Storm not ensure that its software could cope with every eventuality and was capable of fully monitoring all borrowings such as house and margin loan borrowings? After all, the Directors of Storm already owned a software company, namely Ignite, that developed “Phormula" in the first place? We know that money was being poured into Ignite by Storm, so where did it all go, and why wasn’t this money used to develop a state-of-the art-system that could be used by Storm?

(c) Is it reasonable to assume that the Directors of Storm knew full well the corrosive asset nature of the financial model they were promoting? 'Ipso facto" they therefore knowingly deceived people into believing it was sound and attractive so that those people would sign up with Storm?

“Liquidator's Barrister: Now, the Storm Financial wealth creation model: it normally required double gearing, didn't it?---
E Cassimatis: Please explain "double gearing."
Liquidator's Barrister: Well, the first would usually be that the client would borrow upon the security of real property, correct?---
E Cassimatis: Privilege. Correct.
Liquidator's Barrister: And then the second step would be that the client, armed with the cash generated from borrowing upon the real property, could then go to a margin lender and say, "Margin lender, I would like to buy units in an indexed fund using this cash and the cash that you, the margin lender, will lend me, based upon the security of the units to be acquired, " and then the margin loan will be made on the security of those units?---
E Cassimatis: Privilege. Correct.
Liquidator's Barrister: And you have heard the expression "double gearing" before, haven't you?---
E Cassimatis: Yes, I have.
Liquidator's Barrister: And have I explained it, in your opinion, correctly?--*
E Cassimatis: Privilege. No.
Liquidator's Barrister: All right. How would you explain it?---
E Cassimatis: The way I understand you to have explained it says to me that regardless of anything, two debts of 5000 is different to one debt of 10,000 on the same security, and accordingly, that's double gearing. Presumably, if you extend that, three debts is triple gearing, so I don't understand that to be double gearing. I know it's a popular expression, but that's not my understanding.
Liquidator's Barrister: Is your - I see. Well, perhaps I could ask this, then: am I right in thinking you don't think it's double gearing unless you use the same security as a means of borrowing against twice, like a first and second mortgage on the same property, for example ?---
E Cassimatis: Privilege. No. In my view, double gearing is when someone borrows funds and then invests into an asset that, itself, is geared internally."

PriceWaterhouseCoopers acted as an independent auditor for Storm since the year 2000. In an internal document, PWC described the personalities of the two owners of Storm, as "Described by many as naïve in terms of believing strongly in their model but may not have the broad judgement to run a large listed company or deal with capital market players.” Further, they were also “Described as entrepreneurial in their philosophy. Sometmes do not listen to advice.”

(To be continued)

STORM’S STATEMENT OF ADVICE (Part 5)
Continued (Posting 2)

Conscionability (Continued)

“Described as entrepreneurial in their philosophy. Sometimes do not listen to advice.”

I came across many that could be described like this when I worked in management. They tended to make wonderful salesmen but, for the most part, lousy administrators. Consequently, when they were promoted up the management chain and put in charge of other people, they ran a very loose ship. From what I have come to learn about Storm, (particularly E. Cassimatis) I suspect that the focus of Storm's owners was entirely on sales and customers’ needs were a secondary consideration. Was this just poor judgement though or was this a deliberate policy adopted by Storm’s directors because they were only concerned with making money?

Whatever, I find it hard to believe that a financial advisory firm this large that had been operating for many years could be this inept. I must therefore conclude that the flaws in Storm’s financial model would have been apparent to the Directors of Storm but they deliberately chose to ignore them because it suited their purpose.

3. Purpose
The bottom-line in most businesses sometimes dictates the way a business is run and its primary objectives. Unfortunately, in many instances, this goal of making profit blinds a company to its obligations, duties, and responsibilities where its clients are concerned. Storm, to my mind, is a classic example of this. The Directors of Storm saw clients as a means to an end and tended to ignore their clients' needs in the process.

(a) Storm’s fees

“Storm received Up Front Fees, of up to approximately 7%, of the sum invested by clients, for the advice given to client and also received an ongoing commission from Fund Managers. The amounts collected by Storm by way of such fees in 2007/8 and in the first half of 2008/9 have been set out earlier in this report. The schedule shown below is taken from an internal report submitted to Storm’s board of directors on the
27 November 2008.
The schedule shows that by the end of August 2008 Storm’s clients had invested an aggregate amount of$4.862 billion (at the share values then applying) into the various Share Funds sponsored by Storm. Of that amount $1.786 million (36.7%) appears to have been funded by way of margin lending.
The schedule also shows that by the end of October 2008 the value of the investments had dropped to $3.463 billion, a drop of approximately 28%. While some of the drop resulted from clients “cashing in” their investments almost certainly the greater part of the drop in value resulted from reductions in share values. Although the value of the investments dropped by approximately 28%, the amount of margin
lending dropped by only 14% .These figures suggest that the loan to value ratio of margin loans increased significantly over that period”. – Worrells Report

What Mr. X had to say about fees:
“Commissions
After our experience we are now firmly of the view that Financial advisors should be retained and not be paid any commission. This is the only way to ensure the elimination of a conflict of interests and that advice can remain impartial and in truly in the best interests of the client.
We paid the fees as itemised

1. Source of fee Amount $
2. Margin Loan $59,730.00
3. Home Loan $60,406.00 *
4. Superannuation $36,224.00*
5. TOTAL FEES $156,359.00

* $96,630.00 of the above is the 'upfront fee' to Storm.

Our initial attitude to fees was that as the up front fees were for a lifetime of retained advice say for the next 20 years and as a one off, once and only fee was high but perhaps acceptable for advice "at call' (Our advisor had indicated to us that the fees were higher than average but this was a better than average company!)” This was not the case as every step involved a further fee. This was stated in our plan but we
had interpreted 'Future Investments' (P56) differently.
We also rationalised the fees as a tax deduction as we recall our advisor agreeing that these fees were tax deductable. And, despite the usual disclaimer, we also thought we had understood as much from our Plan:
Page 80 of The Plan also states:" Sometimes, portions of fees you pay your advisor are also considered to be tax deductable against income earned in the year they are paid. This is the portion of fees considered to be for ongoing general advice in regard to your investment portfolio " This now appears to us to be just generic statement 'cut and pasted' from somewhere and we now see there was no effort taken or research done to provide accurate advice relevant to the Plan that had (supposedly?) been specifically tailored for us. Not much chop for fees of $96K!
To date we have not been able to claim any STORM fees as tax deductions.”

Let's look some more at what Storm stated in the SOA about its fees and what its clients got for such.

Page 51, 52 and 53 of the SOA - Fees
What Do You Get For Your Fees? ...
The fee payable is a one off cost to you and it pays for the following:
• Professional fees for the advice given [in the same way as you would pay an accountant, solicitor, engineer, surveyor or doctor for services rendered).
• Ongoing professional advice including unrestricted future access to your advisor [in other words there is no additional costs to you for future visits be it for semi-annual reviews of your position, for additional investment advice or for ongoing financial education).
• Access to continuing financial education and Storm Financial research.
Your current investment is not the end of the financial education process. It is only the beginning. Periodically we will host investor update evenings designed to deliver our latest economic and financial research in an educational format.
• Regular monitoring and updating of your investments.
• Access to superior and cheaper loans. Storm Financial is one of the largest originators of margin loans in Australia and a substantial originator of bank loans. Due to our expertise and size in the margin lending area we are able to negotiate directly with the largest margin lenders in Australia to provide better loan products than can be achieved either individually or with any other advisor. For example Storm Financial is Commonwealth Bank's single largest margin lending client (please note: we do not deal exclusively with the Commonwealth Bank but rather we recommend the margin loan which best suits your needs). As a result we receive a substantially better loan with higher buffers, larger LVR's, longer lead times to margin call and at vastly superior interest rates. For small loans we achieve for our clients a 0.65% per annum interest rate deduction and on larger loans this discount increases up to 1.85% per annum. Similarly, we are able to achieve discounted bank loans for our customers. Additionally, Storm Financial does not receive ongoing (trailing) commissions on loan products (such as margin loans), instead we pass on to you any such commission in the form of lower interest rates.
• Lower per annum cost structure on' your investments. Again using our negotiating power we have been able to provide to our clients retail investment products with prospectus protection at wholesale prices. The normal fee associated with investing in a managed fund is in the order of 1 .5% to 2.5% per annum where as the index funds we recommended will have fees in the order of 0.79% to 1.55% per annum.
• It pays for the purchase of the Brokerage on Investments we recommend and their growth, so you incur no costs in switching funds, or redeeming and reinvesting those same funds. The right to the Brokerage is a valuable asset as it is valid on the Investment and its growth for an unlimited number of transactions, and for an indefinite period of time (while you remain a client of Storm Financial Pty Ltd)”

Sounds good but how true was it and did it hide the hidden benefits to Storm?

Here’s something that was stated in 2009 to a former client of Storm by a former employee of Storm who held a managerial position in that company:

“I was disturbed when I read comments attributed to you regarding fees and commissions paid to financial advisors. It has been worrying me ever since, hence this letter.
It gave me the impression that you believed that it wouldn't have helped Storm Financial clients had these proposed new laws been in place before the Storm collapse.
I would like you to know that it was precisely this issue of commissions which caused the demise of Storm Financial and thus their clients.
The Cassimatis's great con was that Storm charged low trailing commissions and large up-front fees.
The "commission rate" may have been a little lower than some other advisor charges, however they were proud to point out that Storm got people to invest more than twice as much as other advisors.. (by convincing people to mortgage their homes, plunder their superannuation etc, and put all that into the 'market' and then leveraging with Margin loans). In effect Storm was making much more than twice what other advisor groups were receiving much more from commissions, even with the supposedly lower rates.
Storm's attempt to float the company was the source of their biggest sales push. The idea was to get clients to borrow more and margin up (thus increasing LVR's) to increase their commissions so that this increase in income would show that business strategies were so sound and profitable.
I believe the directors’ obsession of becoming billionaires so increased their greed that they took unnecessary risks with their clients security.

(To be continued.)

STORM’S STATEMENT OF ADVICE (Part 5)
Continued (Posting 3)

Conscionability

(Continuation of statement in 2009 to a former client of Storm by a former employee of Storm who held a managerial position in that company):

“The next driver for business was commission based incentives for advisors and staff to enjoy Storm Holidays.
With the Global Financial Crisis marching on, the prudent thing would have been to manage their clients LVR's and convert to cash or other securities to protect them.
Storm's commission income was already being reduced by the falling value of their clients investments. The directors did not want this income to reduce further, and so kept clients in the market with dangerously high LVRs.
The further fall in the market caused hundreds of their most valuable clients to lose their entire investments. I need not mention the heartache, suffering and despair this has caused their clients.
Had the proposed laws been in place regarding trailing commissions, the Storm model would never have been so viable, and Storm would have had to change it's business models to knowing and looking after their clients.
There were Storm advisors, who's personal lifestyles depended on their ongoing commission cheques. This drove them to adhere strongly to Storm policy and recommend increases in borrowings and investments, even during the final days.
I can't imagine what it would have been like as an advisor to have to tell their clients that they had lost their entire investment portfolios and in many cases, their homes.
Storm should have been pro-active in ensuring client investments were safe and protected from 1 in 15 year market fluctuations. Storm's greed for commisions overode the practice of giving the best advice for their clients.
I sincerely believe that the practice of commission based advice is seriously flawed for the consumer. The Financial Planning industry can still ensure a regular income from their clients by charging for service. Example: by providing up to date on-line information and recommendation in the form of platform fees etc.
Storm's fatal policies loaded their clients with excessive debt and CBA etc just pulled the trigger. This entire mess will be costly for CBA etc, but let us not lose sight of who's greed put us in this position in the first place.”

Now, one must bear in mind that these comments came from a person (he was not a former financial adviser by the way) that actually worked in the Storm management hierarchy and would therefore have seen first-hand what went on. We must therefore give some credence to his remarks which supports the evidence at hand.

This drive for profit by Storm is apparent when you examine the financials of Storm:

“The following table sets out net profit after tax (NPAT) earned by Storm during the years ended June 2004 through to June 2007 using the international accounting standards. It also shows the position using the more traditional accounting method. The profit calculated using the traditional approach is shown as "Adjusted Earnings"

A$ million FY 2004 FY 2005 FY 2006 FY 2007

1. NPAT 3.6 7.6 18.3 28.6
2. Remove impact of
3. Future Value of Trail Commissions (4.1 ) (7.3) (17.0) (33.4)
4. Changes in 2007 estimate
5. of value of Trail 13.4
6. Commissions
7. Tax Effect Adjustment 1.2 2.2 5.1 6.0
8. Adjusted Earnings 0.7 2.5 6.4 14.6

To the non accountant the earnings and adjustments in the above table may be more confusing than enlightening. However the essential point to be grasped is that it was not until the year ended 30 June 2006 (at the earliest), that is only 30 months before its collapse, that Storm earned more than what might be regarded as relativity modest after tax profit. Almost certainly the growth in recorded profits was directly related to the boom in the Australian share market, which boom in turn encouraged more clients to invest using the Storm investment model.
The following schedule compares the results of trading for the Storm Group for the six months ended 31 December 2008 with the audited results for the twelve months ended 30 June 2008, and provides an insight into the changing income and expense between the two periods.

6 months 12 months
to 31 Dec 08 to 30 Jun 08
$'000 $'000

1. Income
2. Upfront Fees $7,320 $53,863
3. Trailing commissions $4,939 $14,066
4. Investment profit / (Loss) $-7,187 $7,083
5. Other $427 $2,009
6. Totals $5,499 $77,021
7. [Expenses in total (profit before tax) -$12,603 $37,502

Perhaps the most striking feature of the results for the two periods can be found in a comparison of the Upfront Fees paid to Storm by clients investing fresh funds in the share market. For the year ended 30 June 2008 Storm earned $53.863 million in Upfront Fees (an average of almost $4.5 million per month). In the six months ended 31 December 2008 these Upfront Fees dropped to $7.320 million in total, which is equal to a seventy-three percent (73%) drop calculated on an annual basis.

The trend of decreasing Up Front Fees is clearly shown in the following schedule of monthly Upfront Fees and Trailing Commission for the six months ended 31 December 2008:

1. Upfront Fees Trailing Commissions
2. $'000 $'000
3. July $1,516 $1,052
4. August $2,026 $1,149
5. September $1,535 $1,149
6. October $1,173 $1,010
7. November $739 $460
8. December $331 $174

The four non executive directors of Storm received directors fees at the rate of $80,000 (plus superannuation) each per annum. Mr And Mrs Cassimatis did not receive director's fees from Storm but were each paid a salary of $500,000 p.a. plus superannuation.

During the last six months of trading the board of directors reduced operating cost in an effort to offset the fall in income levels which were occurring. For example, the employment of twenty-eight staff members An internal report (dated November 2008) obtained by the administrators states that Emmanuel and Julie Cassimatis agreed to reduce their annual salaries by half (50%), however the administrators were advised, during their investigations, that the reduction did not in fact occur.” Worells Report

The rise in Storm’s fortunes was, of course, due to the the gains that were being made on the Australian share markets from 1995 to its collapse in the latter half of 2008 when Storm crashed and burned. During that period of almost unbroken growth the index rose from 1800 at the beginning of 1995 to a high of about 6800 during 2007.

I believe that around 2006 the Directors of Storm began to realize the leveraging power they had with the banks because of the dollar value they controlled in the portfolios they were managing. Consequently, they struck fresh deals with the Macquarie bank and the CBA that bolstered Storm’s revenue significantly. These deals in the form of agreements will be discussed by me when I eventually complete an exercise on the Banks that were involved with Storm. The deal that Storm had with the CBA is now well documented but I have never seen the details of the one Storm had with Macquarie. However, I have no doubt that it would be on similar lines.

These deals whilst beneficial to Storm, cut across the obligations Storm had to its clients and, I feel, contributed greatly to those clients’ losses because they blurred lines of responsibility, led to confusion within Storm and the Banks involved, and resulted in procrastination when immediate action to retrieve clients’ positions was demanded.

The Banks and Storm have claimed that the GFC was a ‘Black Swan’ event that could not have been foreseen by anyone.

The fact of the matter is that the market was showing worrying signs on and off through 2008. Further, it didn't just collapse overnight so there was still time to act. Storm was still taking its clients' money as late as September and probably beyond knowing full well that the financial climate was volatile and sinking fast. They also knew full well that many of their clients’ portfolios were leveraged to the hilt. Yet, they still advised people to invest more whilst reassuring everyone that "all was well and there was nothing to worry about!" They basically sat on their hands and did nothing until the situation was well beyond the point of no return.

Why did they act in this way? I think the answer is obvious! They knew that a good many of their clients were up to their eye-balls in debt and realized that if there were a mass sell-down, Storm would lose a substantial part of its business, and one that generated the most profit. Therefore, the Directors felt that they had no choice but to gamble that the share market would come good. They were aided in this by the Banks, particular by the CBA and Macquarie Banks who had recognized a good thing in the way Storm did business and didn't want to lose the benefits of such that came their way.

Naturally, until all this comes out in Court, we can only guess! However, the unacceptable delay that occurred before anything was done has no other logical explanation. At least none that I can find!

Frank Ainslie said:

The bottom-line in most businesses sometimes dictates the way a business is run and its primary objectives. Unfortunately, in many instances, this goal of making profit blinds a company to its obligations, duties, and responsibilities where its clients are concerned. Storm, to my mind, is a classic example of this. The Directors of Storm saw clients as a means to an end and tended to ignore their clients' needs in the process.

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Yet despite your management experience showing you that companies sometimes put profits before customer service, you never once suspected that Storm was just another company doing exactly that.
Think about it Frank......here was a company that was encouraging its clients who were mostly at or near retirement age to mortgage their homes to launch an aggressive borrowing campaign to invest heavily in the most volatile and risky of markets, double gear on top of that, keep adding more borrowed money to the investment through the use of ‘steps’, skimmed 7% off the top of every dollar invested, and didn’t offer the usual range of financial planning services despite calling themselves financial planners.
And yet you trusted them implicitly, pretty much believing everything they told you, not bothering to conduct the simplest and most elementary of research to check the veracity of Storm’s claims.

I’m not trying to grind my boot into your face, but I hope now you’re starting to see that a big part of the reason you got done over is simply that you just didn’t put enough effort into thinking things through before signing on with Storm.

bunyip said:

Yet despite your management experience showing you that companies sometimes put profits before customer service, you never once suspected that Storm was just another company doing exactly that.
Think about it Frank......here was a company that was encouraging its clients who were mostly at or near retirement age to mortgage their homes to launch an aggressive borrowing campaign to invest heavily in the most volatile and risky of markets, double gear on top of that, keep adding more borrowed money to the investment through the use of ‘steps’, skimmed 7% off the top of every dollar invested, and didn’t offer the usual range of financial planning services despite calling themselves financial planners.
And yet you trusted them implicitly, pretty much believing everything they told you, not bothering to conduct the simplest and most elementary of research to check the veracity of Storm’s claims.

I’m not trying to grind my boot into your face, but I hope now you’re starting to see that a big part of the reason you got done over is simply that you just didn’t put enough effort into thinking things through before signing on with Storm.

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By tomorrow, I will be finished with this exercise and will then be posting a piece entitled "Mindset" which will deal with all the questions you and others have raised. I can't say now that they will satisfy you entirely but they will be honest answers.

Get the boot polish out because I bleed easily!

STORM’S STATEMENT OF ADVICE (Part 5)
Continued (Posting 4)

The law as it applies to financial advisers.

I have outlined the many offences that the Directors of Storm have committed when dealing with Storm’s clients. The Cassimatises have been charged by ASIC with breaches of the Corporations Act and their lawyers will, I believe, be hard pressed to present a reasonable defence. This may be a good opportunity to outline what sections of the Act apply to financial advisers in general, and what Sections of the Act might apply where the Directors of Storm are concerned.

“RELEVANT LAW FOR INVESTMENT ADVISORS

Financial advisors in Australia do not operate in a regulatory vacuum. Rather the licensing, the disclosure requirements, the basis on which advice may be given, the requirement to give a Statement of Advice and identification of offences are all codified in some detail in Chapter 7 of the Corporations Act, which part is headed "Financial Services and Markets".

Given Storm's business was that of financial advice, the liquidators feel it prudent to outline for the benefit of creditors what they consider to be relevant law.

Section 760A of the Corporations Act defines the object of Chapter 7 as follows:

The main object of this Chapter is to promote:

(a) confident and informed decision making by consumers of financial products and services while facilitating efficiency, flexibility and innovation in the provision of those products and services; and

(b) fairness, honesty and professionalism by those who provide financial services; and

(c) fair, orderly and transparent markets for financial products; and

(d) the reduction of systemic risk and the provision of fair and effective services by clearing and settlement facilities.

The Australian Securities & Investment Commission (ASIC) has the responsibility of policing, investigating and, where appropriate, prosecuting apparent breaches of Chapter 7. Liquidators have a responsibility, pursuant to section 533 of the Corporations Act, to provide the ASIC with a detailed report in circumstances where it appears to them that a relevant person may be guilty of an offence, or may be guilty of breach of duty or of negligence in relation to the company.

In any review of the activities of Storm it is useful to have an understanding of the regulatory framework under which the company operated. For that reason we set out below summaries of the most relevant sections of Chapter 7.

Reproductions of the relevant legislation are included in this report as an annexure, for the information of creditors. This should not be taken to imply that the liquidators believe that any person is guilty of breaching the sections referred to.

In Summary:

Section 945A

Adherence by financial advisors to the requirements of section 945A is fundamental to the proper conduct of a financial advising business. The section requires that a financial advisor, when giving advice, must:

a. By reasonable inquiries determine, and consider, the clients personal circumstance

b. In the light of those inquiries and that consideration give advice which is appropriate to the client

Section 9458

This section states that if the advice given by a financial advisor is incomplete or inaccurate the client must be warned of that fact.

Sections 9520, 952E,952F, 952G

The normal procedure for financial advisors is to provide their clients with a written Statement of Advice. Storm followed that procedure. The term "disclosure document or statement" is defined by section 952B of the Corporation Act to include a Statement of Advice.

Section 9520 makes it an offence to give a disclosure document or statement knowing it to be defective. Section 952E makes it an offence to give a defective disclosure statement recklessly

Section 952F makes it an offence for a financial service licencee to knowingly provide a defective disclosure document or statement Section 952G makes it an offence for a financial services licensee to provide an authorised representative with a defective disclosure statement

The provisions of sections 9520 and 952E apply to a financial services licencee and to the authorised representatives of a licencee.

Section 1 041 E

Section 1041 E makes it an offence for a person (which includes a company) to make a statement or disseminate information if it is false in a material particular. It is only an offense if the statement was likely to induce a person to apply for, or dispose of a financial product, and the person making the statement did not care if the information was true or false, or the person knew or ought to have known the information was false in a material particular.” Worrells Report

Reading through these sections, it seems to me to be fairly obvious that the Directors of Storm have breached some if not all these Sections in some shape or form.

These are civil offences but ASIC can refer any matters to the DPP if any criminal activity is detected. Fraud, for instance, is a criminal offence.

Frank Ainslie said:

Reading through these sections, it seems to me to be fairly obvious that the Directors of Storm have breached some if not all these Sections in some shape or form.

These are civil offences but ASIC can refer any matters to the DPP if any criminal activity is detected. Fraud, for instance, is a criminal offence.

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I haven't read thoroughly all the above post so apologise if you've already offered an answer: What - amongst all your dealings with Storm - do you feel can be categorised as fraud?

Again, I'm not aware of all the detail, but I'd have thought entering fictitious client details on loan applications would qualify.

Our initial attitude to fees was that as the up front fees were for a lifetime of retained advice say for the next 20 years and as a one off, once and only fee was high but perhaps acceptable for advice "at call' (Our advisor had indicated to us that the fees were higher than average but this was a better than average company!)” This was not the case as every step involved a further fee. This was stated in our plan but we
had interpreted 'Future Investments' (P56) differently.

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This is an area which suggests to me that Storm clients were unreasonably trusting.
To assume that any firm would provide 100% satisfactory service in any industry for the forthcoming 20 years, seems naive to me.

Again, this is an observation, not necessarily a criticism, and an indication that the Storm personnel were exceptionally good salespeople.

Thank you for posting the extracts from the SOA and the comments of Mr X in addition to your own remarks, Frank. It is all enlightening, if bitterly sad for those affected.

STORM’S STATEMENT OF ADVICE (Part 5)
Continued (Posting 5)

In my next posting entitled “Mindset” I will answer the questions posed to me in your postings since I began this exercise.

I’ll end this commentary with the following:

“REASONS FOR FAILURE AND LOSSES

The reason for the failure of Storm as a company is easily ascertained and can be simply stated.

Storm's business was one where the majority of income was earned as clients invested fresh funds in the Australian share market through indexed funds, using Storm's geared up investment model. It seems reasonable to assume that clients could only be expected to make such investment decisions when they could be persuaded that the market was free of high levels of volatility and would rise within a relatively short period. Evidently Storm's greatest period of expansion coincided with a period of almost continual growth in the value of the Australian share market.

During 2008 values in share markets worldwide including Australia, plummeted. As a consequence retail investors were reluctant to invest fresh funds in the market. This in turn had an almost immediate effect on the "upfront fee" income of Storm, which progressively fell from an average of $4.5 million a month during 2007/08 to $331,000 in December 2008. This was a drop of approximately 93%.

The effect of a possible sustained share market downturn on Storm's business was something which the directors of Storm had foreseen, as shown in the following extract from the minutes of a Storm Board of Directors meeting held in October 2007:

‘We can then perceive that a sustained share market downturn will affect Storm's business. However, Storm's client strategy is appropriate to apply during counter-cyclical periods. Whilst the frequency of a sustained share market downturn is very limited, Storm employees are following methods to reduce risk during those times that will inevitably come, despite the infrequency. Storm retains a minimum of 6 to 12 months' operating expenses in the company reserve accounts to ensure, should income reduce, the operating teams do not require reductions in labour force or other resources. Storm's operational teams are very efficient with their time and ensure there are consistently projects within the wish list to enable a refocus on building new
systems during business downturns.
That is, Storm can quickly go from being in full-on building mode during high activity periods to laying the foundation work in quieter times. Our LVR bands are consistently reducing in good times to ensure in sustained difficult times that clients can appropriately continue to build their investments in those sustained downturns. The balance between these things is carefully monitored by management and has proven over the history of the firm to be a way to maintain a safe and sustainable business during these infrequent times.'

The management accounts of Storm show that in the six months to December 2008 the Storm Group lost $12.6 million through trading and expended a further $3.4 million by way of preferred dividends. The preferred dividends represent income share due to the vendors of businesses acquired by Storm and are thus effectively a cost of the business and bring the trading loss to $16 million. Additionally Storm elected to make unsecured advances to clients totaling approximately $2 million, which advances were subsequently lost. These losses, combined with a loss of support from the Storm Group's bankers and inadequate working capital, and in the absence of an expectation of an almost immediate return to profitable trading, mandated the appointment of external administrators.

The failure of Storm was thus a direct result of the overwhelming reduction in upfront fees which was suffered as a consequence of the drop on the value of the share market. Although Storm had foreseen the possibility of such a down turn and had created reserves for just that purpose, it seems that the reserves were, in the circumstances, insufficient.

The losses which clients of Storm incurred were the result of a combination of factors. Although the liquidators are able to identify some of the major factors which contributed to the losses incurred by clients, it is not their role to apportion blame or to prosecute any possible offences. Apportioning blame is the function of a court or other properly constructed tribunal, and the prosecution of any offences which
may have occurred is the responsibility of the ASIC.

Almost any investor with an ongoing position in the Australian share market during 2008 stood to lose substantial value as the market dropped during that year. Thus, all investors who failed to liquidate their investments at an early date were assured of incurring losses. Given that the market dropped almost continually during the second half of 2008 it is obvious that any delay in liquidating investments would add
to the loss accruing.

Clients of Storm who had invested using Storm's leveraged investment model and who had insufficient cash resources to meet margin calls, were potentially more exposed than those investors who were not subject to leverage. But that potential would only be realised if prompt action to realise share investments or pay the expected margin calls was not taken.

The evidence presented at the public examination suggests that both Storm and CGI were aware that client's positions were deteriorating and each sought to take what they individually regarded as appropriate action.

It seems from the evidence provided at the public examination that CGI's view was that CGI was not contractually required to send margin call notices directly to clients. Rather CGI's approach was to provide Storm with a series of prompts and spread sheets detailing the position of clients. This was done, it appears, on the basis that Storm as the authorised agent of the client was best placed to advise the client on what action should be taken to regularise the position. CGI may have been fortified in that belief as a result of the involvement which Storm appears to have actually had in assisting many clients to manage their exposure to CGI, and the representations which Storm made on behalf of all clients. It was not until late November 2008 that CGI decided to contact clients directly.

Again, from the evidence presented, it appears that Storm's position was that it expected CGI would send formal margin call notices directly to clients, noting that this had happened in previous years. Storm did not believe, the evidence suggests, that the ongoing series of spread sheets received by Storm amounted to a formal margin call notice for any client or group of clients. Further, the evidence given by Storm's executives was that in their view it was never Storm's role to closely monitor and or manage client's position. Despite holding those views the evidence appears to be that Storm nevertheless attempted to assist clients both on an individual basis and on an all client basis. The evidence given by the Storm executives was that Storm was, to a degree, frustrated in its attempts to assist as the data provided by CGI was said to be unreliable during critical periods.

It seems at least possible that both Storm and CGI had never contemplated clients' positions deteriorating in the numbers and to the degree which actually occurred. If this was so it would be understandable that both Storm and CGI would be unprepared to deal with that occurrence.

It appears that a significant number of Storm's clients may not have been fully appraised, in a timely way, of the ongoing deterioration in the value of their investments, and as a result did not have the opportunity to initiate appropriate action leading to reduced losses. As mentioned above it is for the courts to assess if any blame attaches to any party for the way in which they conducted themselves during this critical time.” Worrells Report

Frank Ainslie said:

By tomorrow, I will be finished with this exercise and will then be posting a piece entitled "Mindset" which will deal with all the questions you and others have raised. I can't say now that they will satisfy you entirely but they will be honest answers.

Get the boot polish out because I bleed easily!

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Fair enough Frank, I'll look forward to it.
And I echo Julia's comments in saying thanks for posting all this - it provides some interesting insights into your thinking and your decisions and actions in relation to Storm.