The Best Investment Advice You'll Never Get (2008)
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I refer most people who ask to Dilbert's 9-Point Plan, which Scott Adams originally published in 2002 but has been reproduced many times all over the Internet eg
https://retirementplans.vanguard.com/VGApp/pe/PubVgiNews?Art...
If you can't click through, here's the list:
Everything you need to know about financial planning
1. Make a will.
2. Pay off your credit cards.
3. Get term life insurance if you have a family to support.
4. Fund your 401(k) to the maximum.
5. Fund your IRA to the maximum.
6. Buy a house if you want to live in a house and you can afford it.
7. Put six months’ expenses in a money market fund.
8. Take whatever money is left over and invest 70% in a stock index fund and 30% in a bond fund through any discount broker and never touch it until retirement.
9. If any of this confuses you, or you have something special going on (retirement, college planning, tax issues) hire a fee-based financial planner, not one who charges a percentage of your portfolio.
"What to invest in" is only answered in #8, which you shouldn't even think about until you've worked through the previous 7 steps. Yes, write that damn will already!
Regardless, it is believed that you owe it to the people you leave behind to be clear with your intentions. People dying intestate is a massive drain on society, and it often brings out the worst in people.
Of course, the opposing argument is "yeah but I'll be dead so what do I care?" and to be honest it's hard to argue with this.
If I may give a couple of my own personal reasons:
1) It's not that hard. My first one was written at a "Will Writing Party" where no-one had kids, so we all just either left everything to our partner or to be divided up among our siblings. One guy had neither so his estate was bequeathed to his parents, and if they were no longer alive to everyone in attendance at the party (except one poor person who was to be the witness and therefore excluded from being recipient to the estate). For most of us the will we wrote at that party served us until we married.
2) It forces you to think about "the end." Stephen Covey first highlighted the importance of "beginning with the end in mind," and it's something that everyone just puts out of their mind as long as they are able.
Also in my case, I married someone for their child-raising skills rather than their ability to climb the corporate ladder (not that these are mutually exclusive), and sitting down to rewrite a will forced me to think about the added cost of term life insurance because I was taking her prime marrying years from her, and I don't want to leave her unable to remarry and only suited for unskilled labor with no cushion. My wife is also a basket case with investments so you can have some say in that regard too.
3) It forms evidence if you have to show proof of your commitment to someone. In my case our respective wills formed part of the evidence when applying for my wife's visa.
The math behind MPT might be hand waved as followed: goal seek a maximum portfolio return by combining assets with minimal correlation under a fixed risk scenario. In the end, you will have portfolio that will give you the maximum theoretical return for your selected amount of risk.
In practice, outside of running a hedge fund, or a mutual fund with explicit investment guidelines (e.g. we invest in emerging market energy companies), a responsible asset manager has no choice but to follow MPT. In other words, if you are not a specialized fund, there is no mathematical justification for deviating from an MPT constructed portfolio. By definition, any deviation from a MPT balanced portfolio means you have either a) taken on more risk than necessary or b) reduced your potential return or c) do not believe in the underlying assumptions of MPT.
So what is the amateur person worth $25M to do today? As with all things, you should seek professional advice. There are many nuances of tax efficiency, estate efficiency, asset protection, personal needs, etc. that a professional advisor should guide you through.
Apparently the folks at WealthFront and FutureAdvisor are selling MPT driven portfolios to employees of SF bay area tech firms.
edit: As a couple of users point out below, there is controversy over the effectiveness of MPT including: whether the models effectively capture the distribution of risk vs return and whether the values desired by the models can be calculated with proper accuracy. PMPT (post-modern portfolio theory) builds upon MPT. Lastly there are critics such as Nassim Taleb (of Black Swan fame) who find some of the core assumptions flawed.
While this is true, the problem that most advisors that a $25MM net worth individual has access to are mostly duds and/or salesmen.
Identifying true value add advisors is easier said than done, imo.
If you're not a multi millionare, IMO it's worth the time to learn how to manage your own money. Because nobody will ever care as much about your money as you will. A good place to start IMO is by subscribing to the TastyTrade podcast. It's the only investing infotainment I've found that treats the listener like an adult and an equal.
>You will have no shortage of white gloved managers eager to help you invest your $25M.
How do you know which while gloved manager is actually any good though, assuming that the $25MM guy is quite naive about investment management? I believe that the small time millionaire must be up to speed on investing basics just as much as the $500k guy, in order to be able to discern the competence of his managers.
I generally agree with jhulla's advice of going through a good estate planning attorney or accountant to find decent people. If you have a network of rich friends (which you can probably make in a few years after making your $25MM by plugging yourself into the right circles), but barring this (or even if you do manage this), I insist that even the rich guy needs to know at least the basics.
Of these three, if you believe in MPT, the financial advisor is simply a coin-operated sales guy. At a 1% fee against $25 million, your business represents $250K/yearly. That is a solid sum of money to any business.
But practically speaking, what is that financial advisor going to sell you? Odds are after you get past the glossy color printed custom, just-for-you, spiral bound investment plan, you will see a custom portfolio that will be assembled with MPT. This is the product that sell every day to every other $25 millionaire that walks in the door.
Sure, you get to tune the outcome based on your risk threshold, or other biases you may have. But unless you are rolling your own investment strategy based on your own perception of future returns across asset classes (in other words running your own micro-hedge fund) you are buying MPT.
Are there managers and funds that beat everyone else year in and year out. Yes there are. Why don't you get the chance to park your $25 million with them? Because even the choice of parking your funds with them is bound by the math of MPT.
Agreed. This is the only thing I could come up with that would reasonably ensure that I would be talking to someone decent.
Offtopic, but it is my belief that one of the strong factors in the perpetuation of wealth and associated wealth disparities in society is exactly this kind of information and knowledge asymmetry in the population, from access to the best advice (networks or simply the funds to gain access) to the osmosis-like uptake of information throughout one's childhood when raised in an affluent family/neighborhood/environment.
>the financial advisor is simply a coin-operated sales guy
Agreed. this is absolutely the mindset I tell all my friends to adopt, and to not be mislead by the title of "advisor", since they are anything but.
>Odds are after you get past the glossy color printed custom, just-for-you, spiral bound investment plan, you will see a custom portfolio that will be assembled with MPT.
Partially agreed.
Most of the time, I agree that what will be pitched is a cookie cutter MPT set of assets/funds that, while often of somewhat marginally unideal quality, will generally get the job done. However, I have* seen and heard of absolutely horrible plans being thrown at naive new wealth people, and while "odds are" (as you say) this won't happen to you, it's still a non-neglible probability that you get wrapped up with some truly sleazy operations.
That being said, your average American PWM firm/team/branch isn't likely to totally come after you like this. I think this is more likely to happen in Asia or Asian firms in the west.
Nassim Taleb is a vocal critic of MPT.
Personally, I think the biggest problem with any ideal portfolio allocation tool are black swan events (Taleb).
I often refers to a good paperon What has worked in investing [1]
I think Taleb criticism is right though and he demonstrates it through Mandelbrot fractal.
[1] http://www8.gsb.columbia.edu/sites/valueinvesting/files/file...
Yes. Black Swans are certainly a problem. It's insane to think that investment returns are anything resembling a Gaussian distribution. In the financial crisis of 2008-2009, people were using phrases such as "a 9 sigma event" to describe the markets.
Wrong! Basically THERE'S NO SUCH THING AS a 9 SIGMA EVENT. Wikipedia gives the probability of a 6 sigma event as 1 in 500 million. So it the epitome of arrogance to think that we're so "special" that we just happened to be alive during a 9 sigma market move.
What it all really means is that the markets do not behave the way lazy eggheads want them to. Everyone understands Gaussian distributions and standard deviation. So they are eager to use that math where they shouldn't.
I'm sure you know all this. But for those people who aren't familiar with Taleb and want to read more, he wrote three pop books about it:
2001 Fooled by Randomness http://en.wikipedia.org/wiki/Fooled_by_Randomness
2007 The Black Swan http://en.wikipedia.org/wiki/The_Black_Swan_%28Taleb_book%29
2012 Antifragile http://en.wikipedia.org/wiki/Antifragile
I'm in the middle of reading Antifragile, and I am thoroughly enjoying it so far.
In short though, the entire thing is based on the idea that finance is based on guassians, whereas the evidence overwhelmingly suggests it's based on power laws instead. (And intringuingly, the consequence of the latter would mean that portfolio risk increases when you're diversified in many asset classes.)
A person worth $25M already has it made. They could light $1,000 a day on fire for the rest of their lives and still not go broke. Their investment options aren't really so interesting because only deliberate idiocy could destroy their retirement.
I think a more useful question is, what is the amateur person worth $25K to do today? Or the young person with negative net worth? The usual "just dump it into the stock market and pray" seems very risky. Sure, long-term the overall stock market expected to go up on average, but that is if you can survive the variance. Netted out over the years, I'd guess that I've pretty much lost money on the stock market, and I'm skeptical of someone with a simple answer that amounts to "hand your money to Wall Street".
The big thing is to avoid the fees. The average money manager performs averagely, so unless you have some way of picking an above-average one, the fees you're paying are literally handing money to Wall Street. You're right to want something anticorrelated with the stock market, but everyone wants that, and paying a 2% fee to "diversify" probably costs more than you gain. I think there's some merit in the "fifty-fifty" approach - half your investment in an equity index fund, half in a cheap bond fund. But more exotic asset classes probably cost more than they're worth.
The other thing is to make sure your exposure to the housing market is appropriate (indeed I've heard a three-way split suggested). If you're paying a mortgage you'll do better to pay that off quicker rather than invest in stocks or bonds. If you're wealthy enough to own outright you want some of your "excess" wealth (over what you need to own the house you want to keep) in housing, either by buying another one to rent, or by having a big enough house that you could downsize if you needed to. If you're young and renting is the really tough part: if you buy then you're insulated from the market, but relying on your ability to repay the loan. But I guess books have been written on this already.
Unfortunately, giving up has a lot of appeal: It means it's not your fault you didn't beat the market. It lets people say the game is rigged and take comfort.
How many times have you seen buying company stock compared to gambling? Even though, on its face this comparison is ludicrous. (Especially here on HN where so many of you are giving up $40k a year for 0.0004% of a company that is %98 likely to be worthless.)
It becomes like a religion, where anyone saying "Hey, it's easy to beat the market" becomes a "bad guy" who is advising "risky strategies".
The reality is, the tools available to the individual investor are such that you can control the level of risk you want. You can take a stock of high risk and make it low risk with option hedges. You can take a stock of low risk and make it high risk with different options.
"%90 of options expire worthless, the real money is in selling them!" -- Abraham Lincoln
Of course, that's true-- if you have the ability to borrow from the Fed at the overnight rate. Most options are bought as they are intended- as a hedge to minimize risk. IF the underlying asset goes the expected direction, then the option will expire worthless.
My point is really that you have to read books, and hear many points of view, and figure out what's right for you.
Almost every professional and every ideologue is going to lead you down a bad path for you, because there is no one-size-fits all. There is no "best" advice.
Edit: People downvote what they don't understand, that's fine. But if you care about this subject at some point you will ask yourself "why do retail investors underperform" and you can either throw your hands up, call it a rigged game, and blame High Frequency Trading or El Nino or whatever. Or you can look at what a professional trader does differently, and adapt those techniques yourself.
Tell me this: Other than reducing basis, what can you do to increase your chances of success in an investment? If success is defined as "not losing money"?
One way to reduce basis is by selling covered calls on your stock positions, limiting potential profit but adding no additional risk and substantially decreasing your basis month after month. It's not rocket science, and it's not "poor advice". You and retail investors as a class have been scared into thinking that it's "riskier" to spend $300 on a call spread in Tesla than it is to go out and buy 100 shares of TSLA for around $25,000. That doesn't compute.
Edit: It's not that an investment strategy that uses options is the only way to be a successful retail trader -- just like you can cook without sharp knives -- but dismissing them without being able to articulate why, well, that's not doing any favors for the regular investor.
Edit: I've been here for a long time and have plenty of karma to burn in the name of standing up and making a point I believe in. Something is wrong with retail investing when, as a class, we've consistently underperformed, and at the same time we have this dogmatic insistence that options are "too complicated" for the small investor. Mutual Fund? Front Load? Compound Interest? These are all ok but writing a covered call on a stock position is verboten and scary and too hard? Please. Buying (Edit: shouldn't have said "buying", what I meant was "making money on a") stock is a 50/50 bet. (Random Walk theory; Efficient Market). The price can either go up or down. There's no reason a retail investor should not tilt those odds a few points in their favor the same way professional traders do every day.
Look you're an adult and free to do as you please but I'll try any way, please don't sell covered calls. Its very easy to make money and fool yourself into thinking you can beat the market.
Its really the worst of all possible worlds...
you have to hold the stock but don't get the upside when it rises. you have to hold the stock but still loose if it falls by more than the premium you still have the down side of being long the stock.
All you're doing is collecting pennies infront of the steam roller that is the market.
The reason indexing works is that you are always invested when the market has its big moves up. With covered calls you can't participate on the big moves up but you still get hammered when the market moves down.
The reason people do it is that the market can be calm for months and then move.
So you get:
small income in month 1
small income in month 2
then suddenly you either miss a 25% move up by the market as you get exercised on your calls or the market drops and you lose as the market falls 15% and you've lost not only the premium from writing your calls but also some of your principle as well.
Or put in laymans terms, the down side far outweighs the upside.
Also be careful here:
> Buying stock is a 50/50 bet. (Random Walk theory; Efficient Market). The price can either go up or down. There's no reason a retail investor should not tilt those odds a few points in their favor the same way professional traders do every day.
Please note this is just wrong.
There are actually 3 outcomes, which you should know if writing covered calls because you are essentially betting on the third option, which is that the stock stays flat, ie it doesn't move.
My whole point is that selling covered calls does tilt the odds, just not in your favour:(
The good thing is, people have studied this. Because your argument is certainly plausible. What you leave off is that while you may "miss out" on upside, you also bank credit every month that you reinvest and compound.
I called making money in stocks a 50/50 bet, but it's not. It's biased toward the upside, a premium you're given to invest instead of lending (bonds). I've seen it calculated from 3-5%. So lets call the probability of profiting when you buy a share of stock 53%.
So let's talk about this study: * It's not part of the study but, we're in a 5 year bull market. So if your point about missing out on upside is true, it would certainly apply in this market.
* At the beginning of the year, purchase 100 shares of every company in the Dow * Each month sell the nearest OTM call, banking the credit received * Compare P&L with a uncovered long position.
By selling covered calls you reduced your basis by an average of 8% and increased your Probability of Profit to 73%.
Here is a link to another website that has a write-up about the study. I emailed the research team at TastyTrade to get a link to the study itself. I've seen it on their website but can't find it now. http://probabilitycapitalgroup.com/market-studies/using-cost...
And of course the wonderful thing is anybody curious can backtest this themselves. There's a lot of ways to do it, but the trading platform Think or Swim is free.
I'm not advocating what I don't understand, or what I don't have experience with personally. Honestly, i don't buy long stock very much, I prefer options strategies, but for example I'm long AAPL stock, and I've sold the $110 covered calls.
Addendum: I understand the resistance. Most peoples first (and only) experience with options is buying an OTM call or put. They almost always lose their money, think 'wow what a racket' and swear it off. Moreover a general distrust of market makers, hft, etc, and people stick with the status quo. But the reason I love trading with options is because I get to pick my own probability of profit.
You are right on one thing, though: The style of trading I do does not enjoy or rely on the "big win" of holding a big position that goes up huge. My style of trading is: 50 small positions in uncorrelated underlyings that give me a number of individual occurrences to let probabilities work in my favor -- to eliminate statistical variance.
Edit: To be totally clear, I do not advocate buying OTM calls and puts. I'm talking about taking the other side of that trade.
No, you're just betting that it doesn't go past your short strike, which could be few percent above the current price.
The strategy is simple: Most long options expire worthless. Selling something that will soon be worthless is not a bad business.
I would imagine you would agree with my statement that buying OTM calls and puts is bad investment advice and likely to lose money?
Yes?
Ok, then why are you so against taking the OTHER side of that trade?
Just because there are two possibilities does not mean they are equally distributed.
Here's my advice: If you invest the time to learn how to use derivatives, you can be far more profitable than investing only in stocks (whether companies or index funds). And I've made a lot of money, not by making gambles but by trading a large number of small positions over a long timeline, selling option premium and earnings a fantastic return.
It's a fact that retail investors have under performed as a class. And I didn't invent any of the strategies i'm using, nor did TastyTrade (though they do a great job advocating for and researching them). And I absolutely am delighted to spread the word, even if it means debating people like yourself. Your motivation is, I suppose, an innate certainty in your own correctness. It doesn't seem to matter to you that we're debating a subject that I clearly have a lot more passion about and experience with. And your message to anybody reading is "I can't tell you exactly why this is all bad advice, I'm just sure that it is."
I'm certain that options or futures trading isn't for everybody. But you're certain that it's not right for anybody and you and others here have taken a "shout him down" approach that is very un-HN imho...
I have a few rules: 1. Only trade very liquid underlyings. Only 30-40 stocks make the list, and only 10-15 are companies. 2. I don't always sell covered calls, only when IV Rank is high enough to tip the edge in my favor 3. When IV is high, you can set your strike price further out. 4. It's good to go to the 1 Standard Deviation strike, so in your trading platform look for the strike that's around 68% OTM.
Truthfully, though, I don't do covered calls all that much. Because they tie up a lot of buying power because you have to buy the underlying stock. They work best if you already are committed to holding long term, and if you write them in you IRA, which will prevent any tax implications should your short strike be reached and your stock called away.
When that happens, by the way, I just deploy the capital elsewhere, it's not tragic.
> You and retail investors as a class have been scared into thinking that it's "riskier" to spend $300 on a call spread in Tesla than it is to go out and buy 100 shares of TSLA for around $25,000.
Its like you're not reading any of the advice here. Its just as stupid to invest in an individual stock as to buy a call spread. If you're doing either, the bet you're making is "I know more about this subject than tens of thousands of professionals who have studied it for 100 hours per week for the last decade". Out of context, that's an obviously stupid bet except in very very rare circumstances†. So what about it being the stock market suddenly turns it around?
Index funds, on the other hand, definitionally track the market. Something which the professionals you think you can beat can't even do on average. This is the strategy that is being pushed, not buying a huge number of shares of a single risky company.
†Those circumstances are, in stock trading, largely illegal to act on.
I'm sorry man, you don't get it, but you're sure that you do, and you're so sure that you can't be wrong that you dismiss things you clearly don't really understand. You disagree that retail investors should use options? Make an argument aside from "it doesn't work" because I have years of returns -- and you can watch HUNDREDS of hours of studies on TastyTrade and others -- that makes a far better case than your abject dismissal.
I write about option strategies because I'm certain that it's good for individual investors to see serious, experienced people talk about it. I know, I know, you're certain I can't possibly be right (for some reason) and I guess you think I'm just making it all up out of some 4chan like desire to ruin people. Whatever, man. The only traffic to this page now is you and me and other existing commenters.
What's crazy is, TastyTrade, it's a startup! They took VC money and have a dozen data scientists producing meaningful research -- the same stuff hedge funds and prop firms do -- and they release it all publicly. They have a market theory, and they've built fantastic free trading software (first Think Or Swim, now Dough.com) to give investors tools to implement their strategies. These are the good guys, empowering people to not get screwed by some shitty store front financial advisor. They had a 1/2 billion dollar exit with ThinkOrSwim and they give everything TastyTrade does away for free. There's an app you can subscribe to if you want to, but there's no obligation, it's real altruism.
Now, feel free to have the last word. If you're up to it, I'd love your take on the question I asked somebody else:
Wouldn't you agree that it would be a bad idea for a retail investor to invest in OTM options hoping the stock price will move in their direction? It's an awful strategy, with a low probability of success. Almost certainly those options you bought will expire worthless. So why on earth are you advocating so strongly against taking the OTHER SIDE of that trade? Here's a good answer: If you just do not have any time to invest, if you can't put in 15 mins each morning, then fine. But you must feel pretty strongly, so please, explain why you wouldn't want somebody to make that trade.
> Why is it less risky to buy 100 shares of SPY (at around the same $20k as TSLA) vs a $300 call spread on SPY? How can it POSSIBLY be riskier to spend $300 vs $20,000?
You're fighting a strawman here. I'm not saying which of those is riskier; I'm saying they're both stupid things to be doing.
My question to you is: why do you think you can beat professionals despite spending 1/100 of the time learning about it? And why do you think this is advantage is scalable? You're playing a zero-sum game coming from a huge disadvantage.
Think about it this way: in a zero-sum game, you winning means someone else is losing. Who are you beating, and why are you doing better than them?
My answer is that the market is largely unpredictable and those who win have just been lucky so far.
The SPY is an index fund. Of the S&P500. So no, you're not saying "they're both stupid". You're saying "buy an index fund" and I'm saying, there are more sophisticated ways of doing exactly what you're advocating.
And I'll answer your questions: 1. I don't have to "beat" professionals. When you sell options, you're selling at the Bid price. The market makers are still making their few-pennies cut, because that's how their business works.
2. Option pricing is transparent. One of the multiplicands in options pricing formulas is Implied Volatility. This is a forward looking, crowdsourced guess of where the market thinks volatility is headed. It's not backward looking, that's Historical Volatility. The thing about IV is that empirically, it over-estimates. Since the CBOE first invented the Call option 20 or 30 years ago, actual volatility has been lower than the Implied Volatility predicted. And that's the edge dufer, it's an arbitrage opportunity between IV and actual volatility. There is of course no guarantee it will always be there, but it always has been, and that counts for something.
Another way to look at this is simple: People buy options for a variety of reasons. Speculation and Hedging primarily. The options market has to build-in an edge for option sellers, otherwise nobody would sell them.
Alright, I'm sorry if ever my emotions ran a little high. I love HN but the tendency to shout-down what you don't agree with sickens me a little and I have a hard time just yielding to it.
Options have several characteristics that make them substantially riskier. Even selling covered calls is much trickier and riskier than investing in an index fund and likely to have poorer results.
This is something that can be tested, and has been studied, and I encourage you to do that instead of relying on your bias here. Clearly you have some knowledge of the subject so sharpening on the finer points could be informative for you.
2. According to Piketty, the market is doing pretty well over time, so simply following it is perfectly ok.
That said, I've heard the best way to beat the market is to invest in undervalued, small, unglamorous and mostly unknown companies. Obviously, that requires some serious study and resistance to hype.
There's an almost opposite approach that has been beating the market at least in recent years, "dogs of the dow": the idea is to buy the large companies that no longer have much growth potential (I remember McDonalds and AT&T as examples). People like to own small companies that they can imagine making it big, so the market undervalues large, old, "boring" companies that generate steady returns.
The underlying idea is the same for both approaches though: find a human bias that makes people over- or undervalue certain companies, and do the opposite. If there's any way to beat the market, that'll be it - and even that will fall as more trading is done by impartial algorithms that're immune to hype.
Except Warren Buffet himself is a huge proponent of low-cost index funds, and recommends them for the average person.
You really can't use him as an example because he's at the extreme end of the spectrum: wealthy to the point where managing his wealth is his full-time job. He has decades of experience and the knowledge that brings. So to him, it does look as if no one else is playing the game. That's the real context of his quote.
https://www.google.com/finance?cid=9614464
the b shares are currently selling for $143/share
If there is some method to turn $1 into $2 then there is a whole sea of people who are better and smarter than me who will keep doing it till that method no longer works.
Even for non-index managed funds there are often objectives or restrictions like cap size, geographical location, industry, time horizon, etc.
So while they might have better tools, they're not necessarily competing with you directly.
They may have better tools, but small investors have the advantage of being nimble.
If you're trading say, 10K per trade on large-cap stocks, you can have your entire trade executed within 10 seconds without moving the stock price (thanks to HFT, but that's another story). This makes trading on swings much easier for the small investor.
And there are plenty of tools available for the small investor, most brokers will give you access to them when you sign up for an account. Sure, you may not get streaming L2 quotes on a basic account, but you'll get all the company information you need and access to basic real-time quotes. If you want to get a little more sophisticated, you can use something like R to automate some of the information-gathering process, run models against historic data, or simply use it for very fancy charts (with every technical indicator known to mankind).
And, as has been mentioned, hedge funds, mutual funds, etc..., have different motives for trading. Sometimes they are hedging, sometimes diversifying, often they're very long term, etc... They're not always trading. Even HFT is mostly arbitrage. There's still plenty of room for small to medium traders to make money.
For people who don't quite know what they are doing, it is gambling.
It's risk-reward thing, akin to 90% of disaster insurance policyholders won't make claims, but when the hurricane happens, you're gonna be screwed because the premium of the insurance is not calculated by an actuary but by the market where if you're an overzealous option seller, will have underpriced such that you may not have enough capital to cover the cost.
If you want to read more about option selling, I highly recommend Malcom Gladwell's New Yorker piece http://gladwell.com/blowing-up/ or you can also learn the way I did, by trading and being humbled by the market.
P.S. Options came into fashion in the 60's, so I don't think Lincoln ever got into financial engineering with financing the Civil War...
I know it's starting to happen, but professional sports needs this same educational process. Recently watched the 30 for 30 documentary 'Broke' and it was so heartbreaking to see what happens to these athletes who have come from nothing, get a ton of cash all the sudden, and find themselves back where they started after the paycheck stops.
Even Warren Buffett has said multiple times that if one has the skill to evaluate companies than they should pick individual companies and not choose an index fund because they will do far better with picking individual stocks. The problem is the vast majority of people are not skilled in evaluating companies and that's why Warren Buffett suggests them to choose a low-cost index fund.
I've chosen the path of picking individual stocks and I've done very well with it. But I have a deep background in the many skills required to analyze companies. And also it takes a great deal of time to keep updated on the companies I follow.
He spends most of his waking life analyzing about six medtech companies. That's right, only six. One might assume that he knows a few things about each company.
And yet, whenever he recommends buying or selling one of their stocks, he's wrong almost exactly 50% of the time. (I actually track his predictions.)
You might be good at picking individual stocks, but I don't think he is. And if he isn't, I don't think most people would be either--myself included. I'll stick to the index funds.
Again, I generally agree with the advice of going with low-cost index funds for the vast majority of people. However, I do think that there are some people (albeit not many) with the right background, skills, training and commitment who can consistently beat the markets (ie., this was the thesis of Peter Lynch's book Beating the Street).
I guess I just feel bad for him :-|.
What would you say those skills are?
1. broad and deep business background (product, design, marketing, management, strategy, finances, market analysis, etc)
2. due diligence skills (ie., knowing how to evaluate a company, product, leadership, market/competitive position, etc)
3. skills in evaluating a company both quantitatively and qualitatively
4. skills in technical analysis of stocks
Of course, since doing that, the S&P has been on a sustained climb that I've only partially benefitted from since I've had some bond funds, etc. The selling/buying has worked ok - it's whipsawed me in some cases and saved me in others, but given that I'm not spending more than a day a month on it, and that I only have a surface level understanding of sector-balancing, and that while it seems my funds are cheap, who really knows for sure... I'm regularly tempted to just dump the whole thing and get back into one fund, just in time for the next crash the other part of my brain says.
Also, it's worth pointing out that a lot of the "beat the market" talk is rubbish for entirely different reasons. People tend to get more cash to invest when times are good, and less when times are bad. That means that the average person is going to buy more when the market is high, and less when the market is low. I don't ever see this accounted for in studies. Even if you were to drop your money in an S&P-500 index fund whenever that money becomes available to you, you're still going to underperform the S&P-500 long-term by a moderate amount.
I sent the guy and email and ended the relationship and took a couple months to read and learn about this. I recommend the "investor's manifesto" by William Bernstein for anyone interested.
While I do invest in index funds, I have the majority of my money invested in Google, Apple and LinkedIn. I truly just believe in these companies and ignore short term speculation. I am no investment expert, but these stocks combined have by far beaten all the index funds by a significant multiple. Go for the long term, ignore stock tips and earnings reports and you can be successful at investing too.
It's so orthodox even relatively straightforward ways of beating the index are largely ignored. Look up Falkenblog. He's got a thesis about it.
If I didn't run a hedge fund, I don't know what I'd do differently though. Costs are pretty high on individual accounts. One thing you can do is invest via spread betting, which is tax free in the uk. Also the sheer a mount of infrastructure, both in terms of financial data, modelling, and the systems used to execute strategies, makes it a bigger job than one person can do.
Additionally, I'd recommend se percentage be invested in the Vanguard total bond market fund as well. Holding se percentage there will reduce overall portfolio volatility, and can actually increase returns slightly.
1: https://investor.vanguard.com/mutual-funds/target-retirement...
In order to maximize return over your preferred time frame (while minimizing risk), you have to examine the whole universe of investable assets, examine their volatility as well as correlations amongst themselves.
From there, your goal is to assemble an ideal basket of assets maximizes your return for your personal level of risk. Running these filters and choosing when to rerun/rebalance is the basis of modern portfolio theory.
Managing your money using MPT is the service that many investment houses sell. Rolling your own is absolutely possible, but it is not as simple as stocks vs bonds.
Unrelatedly, what are you thoughts on the permanent portfolio (if you've heard of it).
25% in physical PMs is hard to justify but generally speaking I think Browne's Permanent Portfolio is a good base. Perhaps 20% each of domestic equities, international equities, PMs, cash and long term bonds would be more realistic, with rebalance bands at 17/23.
Having run a lot of simulations in determining my own portfolio I came to the conclusion that these things affected my returns, in decreasing order:
1. annual maintenance costs 2. tax effects 3. choice of index 4. diversifying beyond stocks/bonds
I imagine most people who aren't using a passive strategy can chop 1 - 1.5% off their costs just by switching to indexes, and the remaining optimizations will pale in comparison. But as the size of the portfolio increases the additional effort becomes worthwhile.
It's possible that over the long term the market will decouple again but keep in mind that most investment advice about "universal truths" about the "long term" are based on a little over 100 years of market data. Given that I started investing at age 20 and will hopefully live to old age, that's not a lot of training data in comparison to the amount of prediction it's generating.
> “a few funds that at any given moment outperform the indexes.” But over the years, he explains, their performances invariably decline..
There are a few hedge funds that, over decades, still beat the market. Medallion Fund, according to public knowledge, consistently generates above-market returns, never had a down year, and even returned 80% in 2008, when stock markets all over the world crashed. Its trading model is a highly guarded secret. It does not even let outsiders invest (with exceptions for a few).
The fund belongs to Renaissance Technologies, founded by a renowned Mathematical Physics professor, Jim Simons, and employs many PhDs in Physics and Math. (This book writes about it in fair detail. [2])
[1] How we can predict the next financial crisis: http://www.ted.com/talks/didier_sornette_how_we_can_predict_...
[2] The Physics of Wall Street: http://www.amazon.com/The-Physics-Wall-Street-Unpredictable/...
Lets assume the average return is %5, so if you make $200k/yr annually in your engineering craft, then you would need $4 million minimum to match the market for your salary, and probably at least $6 million before you would consider switching your career to 'managing your own money'.
- average long-term return on the stock market is 8-12%
- full-time wealth management means no more tech job, means no need to live in the bay area, means $100k p.a. nets you a comfortable lifestyle
You're looking at $1-1.5MM before retiring to the quiet life.
Periods that start with PE ratios as high as they are now tend to do especially poorly.
The S&P 500 has returned 11% a year since 1983, but 6% after taxes and inflation.
If you had a while until retirement, that wouldn't be a big deal, since it would now be back along with more, but what about the folks moving their IRA out of balanced bond and commodity based funds with some growth stocks, etc. (i.e., hedged) and essentially into the S&P 500, at 60 years old... like my parents did.
The best advice to anyone is to buy indexes after a major market crash; only then will you reap rewards without nearly as great a risk. Here's the catch: most of you will disagree; that's why 10% play and the other 90% pay.
Not if you held it until now.
You shouldn't be trying to time the market. Lots of people try, they tend to fail. Come up with an allocation plan, and stick to it.
And with enough people constantly trying to predict the market, inevitably some get it right. They make a lot of money, they're heralded as geniuses, and we hear about them in the news. We don't hear about everyone else who failed, or when the market-timing winners turn out to be repeat failures in subsequent years.
Put a bunch of people in a room and have them start flipping coins. If there are enough people playing the game, chances are somebody will end up tossing many heads in a row. If they keep flipping long enough, chances are they'll revert back to the mean. This is a pretty good model of market prognostication.
"The high failure rate should come as no surprise, given how hedge funds operate. There’s no working model, so they vary widely, but the basic idea is that they rely on risky, untraditional investment strategies—ranging from arbitrage to taking over floundering companies, as Lampert did—to make big money fast. "
No, that's not the basic idea at all. And untraditional doesn't have to mean risky (a market-neutral strategy is an example).
It's not obscure within finance or without.
Also, the Frontline episode, "The Retirement Gamble"