Well said, James. This is maybe the best thing I’ve yet to read on the subject.
here’s my 2-cents:
as mentioned elsewhere in the comments, at a certain point you’re going to have to invest what you’ve earned, and that comes down to indexing vs. active management. Yours or some fund manager’s.
Always a fascinating debate and I’ve been on both sides of it at various times in my 60 years. For a very long time I laughed at the indexers. I made all of the arguments and then some.
After all, if you just avoided the obvious dogs you’d do better than average, right? Who would be stupid enough to own GM a couple of years ago? Or Ford? Opps. Better forget about Ford. Hindsight is a beautiful and perfect thing.
I even took a major pay cut to join an investment research firm mid-career. There I was surrounded by exceedingly bright people. Each focused on one, maybe two industries and perhaps 6-10 stocks. More than one was honored in the trade press as “Analyst of the Year” for their work.
They knew each of these companies inside and out. They knew the top executives. They knew the middle-managers and the front line people. They knew the customers. They spoke to all of them weekly. Sometimes daily.
They didn’t get info before everyone else (that’s insider trading and illegal, and common). But they did know exactly when and how the info would be released, as did every other competent analyst around the world. Any new information was reflected in the stock price within minutes.
They issued reports our institutional investor clients paid dearly for in soft dollars. And yet, predicting stock performance remained frustratingly elusive.
If you’ve worked in a publicly traded corporation it is not hard to see why. The CEO and CFO work with internal forecasts from their teams. The process looks something like this:
Salespeople are required to forecast what their customers will spend. Since these buys are rarely locked in far in advance, and can be cancelled anytime, nothing is certain. Add to this all the pending business that may or may not come to fruition and basically you are asking the field salesperson to predict the future. So, of course, they take a guess.
These guesses get passed on to their managers, who now have their own forecasts and decisions to make. Do I take these sales forecasts at face value? Do I adjust them based on knowing Suzy is an optimist and Harry always sees dark clouds? So, of course, they take a guess and pass it on to the next layer of management.
So it goes until all these guesses are consolidated into the nicely packaged budget/forecast binders presented to top management. More often than not, after one look, they’ll say: “This is unacceptable. We can’t present this forecast to Wall Street. Go back and revise these numbers.” Back down the chain it goes. Maybe multiple times, and each time the numbers get a bit further from reality.
Now predicting the future is a dicey proposition for even the most gifted psychics, and they are not burdened with this process.
Suddenly my enormous hubris was clear. Somehow reading a few books and 10ks was going to give me an edge? Over not only the professional analysts who lived a breathed this stuff all day every day, but also the executives that ran the companies in question? I could succeed where they could not?
Suddenly I realized why even rock star fund managers find it almost impossible to best the simple index over time.
There is a reason names like Buffet and Lynch are so revered and well known. There are also reasons more fortunes have been made brokering trades than making them.
That’s why I’m an indexer. If you choose to try to best the averages, God Bless and God Speed. You may well be smarter and more talented than I. You are most certainly likely to be better looking. I’ll look for your name along with Warren and Peter’s in the not too distant future.
I extend the same to all those folks I’ve met in Vegas who assure me they have bested the house. I listen, gaze up at the billion dollar casinos and reflect on how many smarter, more talented and better looking people there are than me.
10 Reasons You Should Never Own Stocks Again
I’m really bullish on stocks and the economy but I don’t think you should waste your money investing in stocks. You might as well flush it down the toilet. Or throw a big party. Don’t give it to charity either. We already went over that. And please don’t buy a home. Just relax a little bit if you have some extra money.
I’ve been writing about stocks for almost ten years now. The first time I ever got paid for writing anything was a check for $200 I got from thestreet.com when I wrote in late 2001 about stocks that were trading for less than the cash they had in the bank. I never cashed the check.
10 Reasons Not to Buy Stocks
1. You’re not that good at it. Its really hard to buy stocks. Its not just picking stocks and watching it go up 10,000%. Its buying them and watching them go down 80% before they end up going 20% from your original price. Its waiting. Psychology is at least 80% of the game. I don’t need to go over the statistics. Most people sell at the bottom and buy at the high.
I think I’m pretty good at it but maybe I’m fooling myself also. Because I can think of at least 3 times when I sold most of my holdings at the low and bought at the high. Even after I had years of experience. Sometimes its psychology, and sometimes you just have to do it. There’s only so much money you want to lose. So if you hit that point, and you sell your stocks, and then they go up, then guess what – you just sold at the low. Congrats. You’re a disciplined idiot. Just like me.
(9 out of 10 people think they are an above average drive. 9 0ut of 10 people think they are an above average investor. Both are impossible)
2. Your competition wants to slit your throat in a dark alley. You know how Batman’s dad got killed? He’s walking in the street with his beautiful bejeweled wife and his innocent little son, Bruce. Then this guy comes up to them and says, “give me your wallet and your jewels”. So Dr. Wayne (somehow he made billions being a doctor but thats another story) hands over his wallet and his wife’s jewels. Bruce, the son, is scared to death. Then you know what happens?
The thief shoots the father and mother in the head and runs away. He ALREADY had the money and he still shot them in the head and killed them when they had nothing left. Little Bruce watches and screams while blood streams out of his both his parents. Hopefully they died instantly.
I happen to know who that thief is. Warren Buffett. And you are Bruce Wayne’s dad. Warren Buffett, Stevie Cohen, all the great investors go outside every day and they want to take your wallet, steal your diamonds, maybe rape you, and then after they’ve gotten everything they can get from you, they are going to shoot you in the head in front of your child and run off into the dark of the night.
Good luck fighting that kind of competition.
3. Competition, part II. A broker once told me this about Stevie Cohen. (see also, “How Stevie Cohen Changed My Life”) I don’t know if its true. I don’t care. Its just gossip. Maybe it was even a joke but he was a broker and he told me this. I’m not making any accusation. But the story was this. Cohen would find out where the CFO of a public company was going on vacation. Then he’d send a guy over there. Suddenly on the beach, the two would just happen to be getting their tans right next to each other, share a few margaritas, the information starts flowing. I’m not saying inside information. Its all just conversation. And it might not be Stevie Cohen. Its any of these guys. Every day there’s one dollar up for sale. Who is going to win that one dollar. You? Or the guy who sends his private detective to lie down on the beach next to the CFO of the Next Big Thing.
4. Competition, part III. I know another guy. He has code that scours the FDA databases looking for any microscopic changes in any documents. You know what happens when some of those documents change just a little? A press release comes out a week later. A stock gets halted. It opens up or down 50%. Who is going to win the dollar? You, or the guy who wrote 100,000 lines of code scouring the FDA databases.
5. It’s mostly a scam. I’ve been in or involved with senior management on two public companies and, additionally, have known many public CFOs. I would never ever trust any number that comes out on a 10Q, no matter how GAAP compliant it is according to government standards. Enron was GAAP compliant. Until they were bankrupt and everyone either went to jail or mysteriously died. If you were fully loaded in their stocks you might die also. From pills or a noose or from mistreatment in a mental health clinic. Because its not fun what happens to the shareholders. (see, “Should Insider Trading Be Legal”?)
6. True wealth in the stock market only comes if you make all the wrong decisions and then get lucky. I’ll give you an example: imagine having 100% of your portfolio in one stock, never ever diversifying for 20 or 30 years, and watching it sometimes go down over 50%, maybe even in a day. Guess who makes mistakes like that. Bill Gates (MSFT stock) and Warren Buffett (BRK-A stock) [See, 8 Unusual Things I've Learned About Warren Buffett]. So the guys who make real stock market wealth never diversify and never sell. You know how many guys get rich like that? Less than 100. Then there’s the other 100 million people who own stocks.
So wait, not so fast. You said you were “incredibly bullish on stocks”. And you even write about stocks sometimes. So what are you talking about? Is it all a big scam?
Yeah, it is. But 200mm ipads are going to sell in the next couple of years. So I happen to like Apple. (see also, “Apple will be the first trillion dollar company“) And a trillion dollars in stimulus still hasn’t hit the economy. So I like stocks in general. Not everything has to make perfect sense. Make your own decisions. Financial media pretends to hold your hand but thats a big scam also. Look at all the data, then make your own decisions.
I’m sitting in a cafe right outside the Wall Street Journal as I write this. I think lots of stocks are going to go up in the next few years. I think a lot of people are going to be happy if they wait out this economy. There’s a guy who works here who doesn’t seem to like me because he’s sweeping all around me. I think they want to close up and I’m clearly in his way right now. He wants to go home early, maybe, and kiss his wife and kids. Hopefully his wife is in a good mood. Maybe they’ll fool around a little tonight. He’s had a hard day here today. I hope to god five years from now he’s happier than he is now.