Most stock brokers and financial advisors think they can beat the market.
They can’t and don’t.
Many smart individuals think they can beat the stock market by keeping their pulse on businesses and the economy.
They can’t and don’t.
Hedge fund and mutual fund managers get paid silly money to beat the markets. As a group, they certainly can’t.
And they don’t either.
Harry, who flashed his broker a middle digit, knows of a few solid principles to making stock market profits. He can beat the pants off the pros.
And he does!
This is what Harry has learned:
1. Keep costs and taxes low by purchasing index funds or exchange traded funds
The more you trade, the less money you’ll statistically make. Ignoring this principle while pointing out rare exceptions, (like Charles Kirk) is like looking at George Burns and suggesting that if he could flood his lungs with tobacco smoke, drink like a college kid and live to 100, then you can too. Try it at your peril. Buy index funds instead. Your odds of beating the indexes are about as high as you developing exterior organs of the opposite sex. It happens, but don’t bet your wallet on it.
2. Diversify your eggs across a variety of baskets instead of gambling on individual stocks or sectors—and hold, don’t “trade”.
A mutual fund manager’s job is to trade stocks. But buying an actively managed fund is like playing naked in a casino. You can win big, short term, but in the end, you’ll just look silly comparing your results to the clothed owners of the joint. Owning all of the stocks in a variety of markets (with a bunch of broad based index funds) is like owning the casino itself. Mutual funds and professional traders can make for romantic stories. But there’s nothing romantic about getting crushed (long term) by stock market indexes … read more
3. Be greedy when others are fearful and fearful when others are greedy
Harry is wired to invest responsibly. He’ll rebalance his account—buying U.S. stock indexes if they plummet; buying International stock market indexes if they tank; and buying bond indexes if his stock market indexes are on a tear. It doesn’t require skill—-just an ability to ignore the hairy Neanderthal within you that Jason Zweig speaks of.
For example, if you had 50% of your stock market money in a U.S. index, and 50% in an International index, which index would you buy if (at the end of the month or year) the International index had performed better? If you’d buy the index that had performed better, you’re about as rational as a primate. Sticking to your set portfolio allocation instead of bouncing around like a jungle jumping chimp watching CNN will ensure that you beat almost all of the world’s hyperactive two-leggers, no matter how smart they appear to be.
Few people can dispassionately rebalance their accounts. If you can’t do this yourself, hunt far and wide to find someone who can do it for you. And pay them. The people who can do this are very rare indeed. Here’s what I suggest you ensure, when looking to employ someone to invest your money:
A. Ensure that they use index funds entirely (or as the major core of a portfolio)
B. Ensure that they have been managing money for at least the past 15 years (gray hairs and wrinkles beat testosterone and beautiful people in this industry)
C. Ask to see their personal investment accounts. You’ll want to take a keen interest in whether they simply follow the conventional herd mentality (by investing in what’s popular) or have they truly been greedy when others were fearful (courageous words for the dullness of rebalancing) over the past 15 years or so?
I understand how controversial my last statement is, about ensuring that you see your advisor’s account statements, but I don’t think money should be private. If a carpenter builds homes, wouldn’t you want to see a couple of homes that he built for himself before blindly allowing him to build for you? Our cultural privacy with money is dumb; it leads to hurtful ignorance and mistakes.
Harry faced a headwind
Like everyone else investing in the stock market over the past two years, Harry faced a headwind. The U.S. market is the blue line below, and it has dropped roughly 10% over the past two years. The International stock market (the green line) has dropped more than 20% over the same, previous 24 month period.
Most investors who lumped money into the markets two years ago are down. Even the majority purchasing balanced mutual funds are down over the past two years. There are three reasons for this:
The professionals managing the balanced funds ignored some or all of the 3 premises I listed above. They didn’t use indexes, so costs were high; they didn’t diversify; or they weren’t greedy when others were fearful—failing to rebalance when certain sectors were hit hard.
Here are two high profile American examples that failed to follow the 3 premises: American Funds Balanced Fund and Fidelity Balanced.
The American Funds Balanced fund is the blue line above and the green line represents the Fidelity balanced fund. Each of these funds is among the best in the American mutual fund industry—from the two largest mutual fund companies in the U.S.
Each is down roughly 3% over the past 2 years. Their fees are higher than indexed fees (sin#1); and they didn’t rebalance appropriately when the markets tanked in 2008/2009 (sin #2). I know this, because Harry followed both principles and beat the pants off these professional managers. And Harry should have done worse, because he owns a MUCH larger international indexed component than the funds above do—and the international indexes have been crushed over the past 2 years. Having a high international component was a bit like Harry carrying his wife over a 100 meter dash. As lovely as she is, she slowed him down. But he still won.
How about a few high profile Canadian examples?
Keep in mind that Canadian funds had tougher bogeys than their American counterparts.
First, Canadian funds are the most expensive funds in the world. What they take in hidden fees, you lose out on (as an investor). Americans, hold your breath here: the average Canadian pays (gasp!) more than 2.5% annually in mutual fund expense ratio fees. …read more
And you Americans thought fees of 1.5% annually were high?
The second tough bogey is the fact that the Canadian dollar strengthened over the past two years. When reporting results in Canadian dollars, a rising loonie (or dollar) makes comparisons tougher.
The Royal Bank of Canada’s Balanced fund is down 5.84% over the past two years in Canadian dollars: … read more
The Toronto Dominion Bank Balanced fund is down 5.83% over the past 2 years in Canadian dollars: … read more
The Bank of Montreal Balanced Fund is down 3.1% over the past 2 years in Canadian dollars: … read more
Harry’s $258,651.99 in August 2008 is now worth $266,323.12 (on July 30, 2010)
This gives him a 7.92% overall advantage over the big Canadian balanced funds above. Based on his account size, that’s a $21,092.78 difference over the average returns of these iconic Canadian funds.
Much of that $21,092.78 deficit is a result of excessive fees charged by the fund companies. The other part is based on cowardice by the managers running the funds. You can read more about Harry’s triumphs here: Harry’s Account
I look forward to reporting when Harry has a $100,000 advantage over these actively managed funds. Mathematically, it’s bound to happen.
Go Harry go!