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November 2008

Suppose you were considering investing a large sum of money in Oriental carpets, about which you had little expert knowledge. As you approach the bazaar, you consider the people who will help you. First, you will want an adviser to give you some idea of the "true", underlying value of the carpets, perhaps to be paid by an advisory fee or commission.

Second, you may be anxious that the clever market participants will sense that you are a buyer and will alter their prices (upwards, of course). So you will appoint a broker to enter the market on your behalf, to ask for both the buying and selling prices, and to get you the best deal. The broker will also be paid a commission.

Finally, you may meet the people who own the carpets, possibly on credit, with a view to trading them at a profit. You may meet the dealers to compare the different carpets available and to choose those most to your taste. The lowest purchase prices ought to have been established by your broker. You will pay the dealer only the purchase price of the carpet, because you, he and the broker know that he paid less for it, and the difference is his profit.

If someone suggested to you that the investment could be radically simplified by going to a single company that is simultaneously an adviser, a broker and a dealer in the carpet business, you would - surely - tell him, "Don't be so silly. The adviser, the broker and the dealer are helping me in different ways. If a single company carried out all those services for me, it would be subject to severe conflicts of interest. The adviser would recommend the dealer's lowest-quality stock, the broker might tell me both the buying and selling prices, but would dishonestly adjust the range upwards, and so on. Of course, I wouldn't trust a company that claimed to be able to do everything for me in the carpet market."

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