Gold News

Stock Investing: A Loser's Game

Why EMH is wrong, and right, and how that points to a simple winning strategy...
 
THERE are so many unanswered questions, writes Bill Bonner in his Diary of a Rogue Economist.
  • Should you put your money in a company just because you like the product?
  • Should you buy companies with rising earnings?
  • Should you trade in and out of stocks?
  • What should you do if the market is "too high"?
  • Should you be trying to beat the market at all? Is it not better to content yourself with whatever the market returns?
The answer to these questions will be far more important than any stock pick you ever make.
 
This is one of the reasons my son Will and I set up our new publishing venture, Bonner & Partners. We wanted to publish research not just aboutwhat to invest in and when to invest in it...but how you should be investing in the first place.
 
First, consider this from Forbes:
"According to the latest 2014 release of Dalbar's Quantitative Analysis of Investor Behavior (QAIB), the average investor in a blend of equities and fixed-income mutual funds has garnered only a 2.6% net annualized rate of return for the 10-year time period ending Dec. 31, 2013.
 
"The same average investor hasn't fared any better over longer time frames. The 20-year annualized return comes in at 2.5%, while the 30-year annualized rate is just 1.9%. Wow!
 
"The average investor exclusively investing in just fixed-income funds has had an even worse experience. The annualized return is 0.6% over 10 years, 0.7% over 20 years, and 0.7% over 30 years.
 
"Investors may only have themselves to blame. According to Dalbar's QAIB, investors make poor investment choices that hurt their investment returns. These decisions, including when to buy and sell, are often driven by emotion."
By contrast, almost any investment sector or category did better. Over the last 10 years, the S&P 500 rose 7.4%. International stocks rose 6.9%. Bonds went up 4.6%. Only commodities underperformed, with a negative 0.8% annual return.
 
Academics and financial theoreticians have confronted these facts in the context of the Efficient Market Hypothesis (EMH).
 
The evidence, say EMH advocates, supports the hypothesis: There is no point in trying to beat the market. You won't win.
 
"Nothing of the sort," reply EMH critics, among them Warren Buffett. There's plenty of evidence that:
  1. irrational investors frequently misprice stocks in an exploitable way; and
  2. investors using old-fashioned Graham-and-Dodd value investing techniques consistently beat the market in a way that is not attributable to luck.
More evidence on this point came yesterday. Our old friend and colleague Chris Mayer – and another disciple of Graham and Dodd – had the track record of his value-investing newsletter Capital & Crisis verified by outside auditors. Chris writes:
"The report is not perfect. They exclude dividends, which is ridiculous. But even so, from September 2004 through July 31, 2014, the annualized return for Capital & Crisis were 16% over the last decade versus 4.8% for the S&P 500.
 
"I count dividends, so my figures are a touch higher – 17% for Capital & Crisis. But pretty close."
So you see, you can "beat the market". But both EMH advocates and detractors exaggerate.
 
It may be true that prices are never "perfect"...in the sense that they perfectly reflect the real value of the underlying investment. But it is also true that investors can never be sure they have discovered a more perfect price than the market has set.
 
In other words, Mr.Market is never wrong; he just changes his mind.
 
For us, the EMH is better regarded as a moral rule. It is not exactly true. But it is not exactly false, either.
 
A savant such as Warren Buffett would be a much poorer man today had he believed it. But most investors are probably better off taking it as gospel...just as they are better off believing they will go to hell if they disobey the Ten Commandments.
 
For most investors, riding along with the market will be far more rewarding than trading in and out trying to beat it. There may be $100 bills lying around from time to time, but most investors probably won't find them before Buffett and other pros like him do.
 
This is the approach we take at our family wealth advisory, Bonner & Partners Family Office – where the main focus is on asset allocation, not stock picking.
 
The core message of EMH is that the market is very hard to beat in a consistent way. It tells us to be humble...and realistic about what we can expect from stocks.
 
For most people, investing is not a good way to make a fortune. It is just a good way to keep...and maybe grow...a fortune.
 
You make your real money by providing real goods and services to others. It is not realistic to think you can make much money, while you sleep, from the hard work and enterprise of others. That is revealed in the figures above cited by Forbes.
 
Another way to look at this is to think of investing as a "losers' game". A successful amateur investor realizes he is not likely to beat the pros. He doesn't try for home runs or grand slams. He just wants to get on base.
 
He assumes the market is fairly efficient...and that he's not likely to beat it. He avoids buying expensive stocks. (How does he know they'll continue to go up?) He avoids investment themes he doesn't understand. (How does he know they make sense?)
 
He aims only to not lose, by sticking with the very, very basics.
 
That is the point of our  Simplified Trading System (STS). And it's what we spend most of our time doing in our new newsletter, The Bill Bonner Letter. We're not trying to find things that will work. (How do we know?) We're just trying to identify those that probably won't.
 
Here's our investment philosophy:
  1. Think a lot. Do a little.
  2. Always buy low. And for safe measure, buy very low.
  3. Never believe anything a salesman says about an investment. There's a good chance that he is ignorant, dishonest or stupid. Or all three.
  4. Be reasonable. But take a swing at a grand slam pitch from time to time. Heck, it's not just about the money; it should be fun, too.
  5. Remember, the investment world is like the rest of life. Patience, modesty and hard work pay off.
Vanity, weakness and cupidity do not.

Bill Bonner has co-authored a number of New York Times Bestsellers including Financial Reckoning Day, Empire of Debt and Mobs, Markets and Messiahs. In his own opinion, Bill's most recent title, A Modest Theory of Civilization: Win-Win or Lose, is his best work yet. Bill also founded The Agora, a worldwide community for private researchers and publishers, in 1979. Financial analysts within the group have exposed and predicted some of the world's biggest shifts since that time, starting with the fall of the Soviet Union back in the late 1980s, to the collapse of the Dot Com (2000) and then mortgage finance (2008) bubbles, and more recently the election of President Trump.

See full archive of Bill Bonner articles

Please Note: All articles published here are to inform your thinking, not lead it. Only you can decide the best place for your money, and any decision you make will put your money at risk. Information or data included here may have already been overtaken by events – and must be verified elsewhere – should you choose to act on it. Please review our Terms & Conditions for accessing Gold News.

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