Investing: Mean Revision

          I suspect that a lot of people who skim blogs like this will probably jump right past this topic, and others may get a little intimidated just by the boring name “mean revision”.  However, understanding this very simple concept will put you ahead of 99% of the people around you trying to retire with some dignity.

          As I have tried to drill into this book 100x times, no one knows the future, therefore, no one can have any special skill in selecting only investments that garner the highest return.  Otherwise, why would they have more than one investment in their portfolio?  Just buy the one that is going to do the best, everything else is a waste of money.  Mean revision is the cousin of predicting the future.

          Mutual funds, explained elsewhere in this book, are either set to match an index such as the DJIA or S&P 500, are industry specific, or are “professionally” managed.  That is, the manager does research to find the “best” stocks and cherry picks only the one’s he or she feels will do the best.  Hundreds, or even thousands of these funds are opened every year, and most of them close down in a short time due to under-performance.  However, sometimes these funds actually do well, making a return higher than the index.  Of course, this piques the interest of investors who flock into this over-performing fund.  The manager, who now has to invest this additional money, may or may not do as well with additional selections, or the selections initially made may not continue performing well.

          What happens next is that the fund begins to under-perform the market.  Of course, all of the people who poured into the fund before leave, chasing their next fix of supposedly superior returns.  The fund may or may not survive this.

          So essentially, mean revision is where a fund first achieves “alpha” or superior investment returns, followed by lower than average returns that put the overall average return of the fund to the average of the market.  This is typically achieved with managers attempting to outperform the market with their special “skills”. 

          As normal people with normal jobs, and (probably at best) 15% of our incomes going to retirement investing, we are not going to be able to afford a manager who actually can consistently outperform the market.  It would not even be enough if us normal people could magically hand over our entire lifetime income at birth to these professionals.  In terms of the stock market, it is best to simply ride the market averages rather than deal with snake oil salesmen promising the world.

          So, what to do when looking at mutual funds?  Look for the funds that have the broadest investment philosophy.  That is, a fund that invests in all of the biggest stocks, or all of the middle-sized stocks.  From there, look for a fund that has as little “churn” as possible.  That is, a fund that is not constantly trading in and out of stocks.  That costs money and rarely helps the overall return on investment. 

Finally, and most importantly, look for the lowest fees.  You are at best going to get the same return as the market, so doing so as cheaply as possible ensures that you keep more of your investment returns.  High fees are nothing to brag about, and higher fees will not guarantee a higher return.  They will only guarantee more of your money not being invested on your behalf.  That does not help you.

Investing: Advice

Investing Advice

          First off, I would like to reiterate that nothing in this book is investment “advice.”  I am writing from my experience and informal education.  I am not going to suggest any particular company or kind of investment.  I am certainly not going to suggest a particular investment where I will get a commission on a sale to you.  While I would love to get a cut of the investment portfolios of everyone who reads this book, I am happy with the portion of the sale of this book that I receive.

          Second, I am going to give an example of the worst investment advice that I have ever heard.  This advice is still floating around on the internet to this day, so bonus points to you if you find it and have a good laugh.  The person giving the advice went on two different shows that I had, until that point, had a tremendous amount of respect for.  However, after the first time this person explained their position, I had an incredibly difficult time taking them seriously.

          A point about the example I am going to give.  I am writing this book in what I hope to be a completely politically neutral way.  I’ve heard that Michael Jordan once said, “Republicans buy shoes, too.”  While I have my own personal biases in regards to politics, I will do everything possible to have that bias removed from anything to do with this book.  The example I am about to give is one of many reasons why.

          On a show that will remain unnamed, a guest, who will also remain unnamed explained that one of the critical things to consider in the near future was that the President of the United States (at the time) Donald Trump, would throw the entire 2020 presidential election into turmoil when he would drop out of the presidential race at the last second, simply to use it as a massive platform to launch a new television news network.  She based this on President Trump’s use of the phrase “fake news”.  After hearing this, I was quite interested in hearing the next episode of that podcast to see if they would say anything about how silly and ridiculous that sounded.  Absolutely nothing.  They stood with it as though it was legitimate advice that someone should absolutely consider when investing in the time period leading up to the election.

          If you follow the news, especially that regarding President Trump, a lot of it seems to be negative.  It is remarkable that he got elected at all if it is all true.  This podcast seemed to be feeding on that.  While I am writing this before the election, and certainly before this prediction came true, or not, I have a difficult time using that prediction in my own investing repertoire. 

          I suppose this would be no different than a guest coming onto a podcast and suggesting that President Obama’s reelection in 2012 would mean that he would nationalize every publicly traded company and turn the US into a socialist “worker’s paradise.”  Obviously, that did not happen, and anyone who took advice along those lines would have lost substantial amounts of money by not investing.

          The point is, consider the political bias of the person giving you investment advice.  Doom and gloom ahead because X got elected?  Really?  Who donates to the campaigns of these politicians?  Who “assists” in writing the legislation?  A lot of those who contribute are ones with significant amounts of money.  They may even be high level executives in publicly traded companies.  Regardless, they have enough money to either contribute to those laws, or to afford lawyers who can find ways around those laws.  Companies are going to protect themselves.

          If you get really bored, do some reading on investment advice following the election of President Trump.  Compare that to the next four years.  Technically, we should have been wiped out by a North Korean nuclear bomb within a few months after the election.  So much for advice.

          Another podcast I listen to calls virtually all investment media “investment porn” because of the tawdry nature of it all.  From what I have seen, this is spot on.  There are so many interviews with hedge fund managers and other investment “masters” telling you where to invest your money. 

          There are two things to remember when listening to such “experts”.  The first thing to understand is that no one knows the future.  Enron and MCI were great stocks to own until they were exposed as frauds.  To look at their growth at the time, they seemed like sure bets.  Things are always changing, but no one knows which way or when those changes will happen.  The scenarios given may certainly occur, and you may be convinced to make an investment based around those assumptions.  Perfectly okay, but not with a substantial portion of your wealth.  Later on we will be discussing diversification.

          The second thing to remember when listening to investment advice is, how much “skin in the game” does the person giving the advice have?  Do they have even more in other investments?  If they are putting more money into other investments, how good is the advice they are giving?   They may not even have ANY money invested in the idea they are giving you.  How good is the advice that they themselves are not taking? Along the same lines, what are the chances that they are going to come back on to tell you that things have changed and that you should get out of those investments suggested before?  That never happens.  It is up to you to “know” that.  The person giving the advice certainly is not going to give you a refund of your losses if they are wrong.

          The next thing to consider when getting investment advice is the motivation of the person giving the advice.  What does the person stand to gain from you making one decision over another?  Do they receive a higher commission from the people running the investment?  Are there hidden fees that will eat away your portfolio?  Does the investment even make sense for your goals?  Sadly, most investors are sheep being led to slaughter by the greed of their advisers and even themselves.

          Hopefully, by reading this book, and others, you will gain the discernment and understanding you need to gain the wisdom needed to succeed.  Your comfortable retirement (or other financial goal) is my success.