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You are here: Home / Stock Investing Series / Stocks — Part III: Most people lose money in the market.

Stocks — Part III: Most people lose money in the market.

by jlcollinsnh 75 Comments

So, here we have this wonderful wealth building tool that relentlessly marches upward but — and this is a major but  — boy howdy it’s a wild and unsettling ride.

In Part I & Part II I presented to you a very rosy view of the stock market and its wealth building potential.  Every thing I wrote is true.  But, this too is true:

Most people lose money in the stock market.

Here’s why:

1.  We panic when times are tough and buy when the market is soaring.

We buy high and sell low.  This applies to all of us.  It is the way humans are hard-wired.  We are psychologically unsuited to prosper in a volatile market.  It takes an act of will and effort to understand, accept and then change this destructive behavior.

Here’s a sobering fact: The vast majority of investors in mutual funds actually manage to get worse returns from their funds than the funds themselves generate and report.  Let that little nugget sink in a moment.  How can this be?  We can’t help trying to “time” the market and so jump in and out; almost always at the wrong times.

Here’s what Warren Buffett has to say about this:

“The Dow started the last century at 66 and ended at 11,400. How could you lose money during a period like that? A lot of people did because they tried to dance in and out.”

2.  We believe we can pick individual stocks.  

You can’t pick winning stocks.  Don’t feel bad.  I can’t either.  Nor can 80%+ of most pros.

Oh, sure.  Occasionally we can, and Oh My what a heady feeling it is when it works.  It is incredibly seductive.  Picking a stock that soars is an intense and addictive high.  The media and internet are filled with “winning” strategies that feed on this delusion.

Last year I spotted a trend and made 19% in four months on the five stocks I choose.  (Sigh.  I still have this addiction.)  That’s almost 60% annualized.  This while the market was flat for the year.  That’s spectacular, if I do say so myself.  It is also impossible to do year after year.

Even slightly beating the Index year after year is vanishingly difficult.  Only a handful of investors have been able to modestly outpace it over time.  Doing so made them superstars.  That’s why Warren Buffet, Michael Price and Peter Lynch are household names.  That’s why I don’t let my occasional win go to my head.  That’s why I let Index Funds do the heavy lifting in my portfolio.

For more on this, here’s the 2nd post ever I wrote for this blog:

Why I can’t pick winning stocks, and you can’t either

And here’s my take on a currently popular strategy:

Dividend Growth Investing

3.  We believe we can pick winning mutual fund managers. 

Actively Managed Stock Mutual Funds (funds run by professional managers as opposed to Index Funds) are a huge and highly profitable business.  Profitable for the companies that run them.* For the investors, not so much.

So profitable are they, there are actually more mutual funds out there than there are stocks.  You read that correctly.  Yeah, I’m amazed too.

There is so much money at stake, investment companies are forever launching new funds while burying the ones that fail.  The financial media is filled with stories of winning managers and funds, and advertising from them.   Past records are analyzed.  Managers are interviewed.  Companies like Morningstar are built around researching and ranking funds.

The fact is only 20% of fund managers will beat the Index over time.  80% will fail.  100% of them will charge you high fees to try. There is no predicting which will be in that rarefied 20%.

Every fund prospectus carries this phrase:  “Past results are not a guarantee of future performance.”  It is the most ignored sentence in the whole document.  It is also the most accurate.

Here’s little “trick” the mutual fund companies employ.  When one of their funds under-performs they’ll simply quietly close it and fold the assets into something doing better.  The bad fund disappears and the company can continue to claim its fund are all stars.  Cute.

There’s lots of money to be made with actively managed funds.  Just not by the investors. Want to hear me rant more about this?  Here you go:

The Bashing of Index Funds, Jack Bogle and a Jedi Dog Trick

or listen to this guy and ask…

Where are the missing bullet holes?

4.  We play in the wrong end of the pool.

Mmmm.  Beer.

Imagine you’ve just spent a few hours reading all pithy posts here on jlcollinsnh.  (As well you should!)  Richly deserving of a reward you crack open a bottle of your favorite brew and pour it into a nice chilled glass.

If you’ve done this before you know that if you carefully pour it down the side you’ll wind up with a glass filled mostly with beer and a small foam head.  Pour it fast and down the center and you can easily have a glass with a little beer and filled mostly with foam.

Imagine now someone else has poured it for you, out of sight, and into a solid mug you can’t see thru.  You have no way of knowing how much is beer and how much is foam.  That’s the stock market.

See, the stock market is really two very different things:

1.  It is the beer:  The actual operating businesses we can own a part of.

2.  It is the foam:  The traded pieces of paper that furiously rise and fall in price moment-to-moment.  This is the market of CNBC.  This is the market of the daily stock market report.  This is the market people are talking about when they liken Wall Street to Las Vegas.  This is the market of the daily, weekly, monthly, yearly volatility that drives the average investor out the window and on to the ledge.

This is the market that, if you are smart and want to build wealth over time, you will absolutely ignore.

When you look at the daily price of a stock it is impossible to know how much is foam.  This is why a company can plummet in value one day and soar the next.  This is why CNBC routinely features experts, each impressively credentialed, confidently predicting where the market is going next – while contradicting each other.  It is all those traders competing to guess how much beer is actually in the glass, and how much is foam.

Over time, it is the beer that matters.

It is the beer that is the real, operating, money making underlying businesses beneath all that foam and froth that relentlessly drives the market ever higher.

Understand, too, that what the media wants from these commentators is drama.  Nobody is going to sit glued to their TV while some rational person talks about long-term investing.  But get somebody to promise the Dow is going to 20,000 by year’s end or, better yet, is on the verge of careening into the abyss, and brother you’ve got ratings!

But it’s all just so much noise and it doesn’t matter to us.  We’re in it for the beer!

Next time we’ll talk about that big, ugly event.

Addendum:

*In addition to underperforming Index Funds, actively managed funds cost more, and those costs have a very serious and negative impact on your results. My pal Shilpan has a great post on this:  That Mutual Fund is Robbing Your Retirement

 

Related

Important Resources

  • Talent Stacker is a resource that I learned about through my work with Jonathan and Brad at ChooseFI, and first heard about Salesforce as a career option in an episode where we featured Bradley Rice on the Podcast. In that episode, Bradley shared how he reached FI quickly thanks to his huge paychecks and discipline in keeping his expenses low. Jonathan teamed up with Bradley to build Talent Stacker, and they have helped more than 1,000 students from all walks of life complete the program and land jobs like clockwork, earning double or even triple their old salaries using a Salesforce certification to break into a no-code tech career.
  • Credit Cards are like chain saws. Incredibly useful. Incredibly dangerous. Resolve to pay in full each month and never carry a balance. Do that and they can be great tools. Here are some of the very best for travel hacking, cash back and small business rewards.
  • Personal Capital is a free tool to manage and evaluate your investments. With great visuals you can track your net worth, asset allocation, and portfolio performance, including costs. At a glance you'll see what's working and what you might want to change. Here's my full review.
  • Betterment is my recommendation for hands-off investors who prefer a DIFM (Do It For Me) approach. It is also a great tool for reaching short-term savings goals. Here is my Betterment Review
  • NewRetirement offers cool tools to help guide you in answering the question: Do I have enough money to retire? And getting started is free. Sign up and you will be offered two paths into their retirement planner. I was also on their podcast and you can check that out here:Video version, Podcast version.
  • Tuft & Needle (T&N) helps me sleep at night. They are a very cool company with a great product. Here’s my review of what we are currently sleeping on: Our Walnut Frame and Mint Mattress.
  • Vanguard.com

Filed Under: Stock Investing Series Tagged With: volatile market, wealth building

« Stocks — Part II: The Market Always Goes Up
Stocks — Part IV: The Big Ugly Event, Deflation and a bit on Inflation »

Comments

  1. Shilpan says

    April 26, 2012 at 8:28 pm

    Nice take on the market psychology Jim. You’ve hit the nail on the head with the facts on mutual funds. I think people who invest in mutual fund without giving much thought are worst than those who try to actively manage their portfolio by picking stocks.

    Reply
    • jlcollinsnh says

      April 27, 2012 at 11:31 am

      Thanks!

      In my opinion successful investing will always be elusive without understanding our human psychology and how it works against us.

      Choosing an actively managed mutual fund is every bit as difficult as choosing an individual stock. In both cases you are investing in the individuals that run the company or fund.

      At least stock pickers realize, mostly, the challenge they’ve undertaken. Mutual fund companies spend huge amounts convincing people choosing a fund is easy. It’s not.

      Fortunately Index Funds do away with both those choices for a simpler and more profitable option.

      Reply
      • 101 Centavos says

        April 29, 2012 at 3:35 pm

        Got that right, Jim. I’ve gotten out and stayed out of mutual funds where I can. But I still cling to the notion that I can pick stocks. As you said, we’re only human. And we like beer.

        Reply
        • jlcollinsnh says

          April 29, 2012 at 5:55 pm

          It is one of the toughest of all addictions to shake.

          Stock picking that is. Not beer. 😉

          Reply
      • Shilpan says

        July 7, 2013 at 7:13 pm

        Thanks for linking my latest article. I have much to learn from your wisdom. I am definitely making progress.

        Reply
  2. Trish says

    May 6, 2012 at 9:10 pm

    Jim-
    What’s a “tax-managed” fund?
    I have some Vanguard balanced funds, and I’m wondering what that means.
    I’ve been testing your theory. I have half my investment in a managed fund, half in an index fund. So far, I’m ahead on the managed, so I figure it might be time to get out and go index. Overall, the difference doesn’t seem to be worth the extra cost.

    Reply
    • jlcollinsnh says

      May 7, 2012 at 11:38 pm

      great question!

      most actively managed funds do a lot of trading in their effort to try to out-pace the Index. Problem is, those trades are taxable events for the fund shareholders creating tax liabilities that may not be expected or wanted.

      a tax-managed fund seeks to limit its trading and thereby its taxable events for shareholders.

      Because Index funds buy and hold all the stocks in an index they are, by definition, tax efficient.

      Good luck with your test. a big advantage Index funds have is their low cost. Managed funds charge higher fees and that is a never-ending drag on their performance.

      Reply
      • wendy says

        June 5, 2018 at 10:03 am

        In addition to limiting trades, “tax managed” funds try to sell losing stocks to counterbalance sales of appreciated stocks. This is basically tax-loss harvesting. In addition selling shares based on their purchase price instead of FIFO (first in, first out) can also limit taxable gains in a fund. So, technically it is more than just limiting trading, but more like a strategic approach to blunt taxable events. Hope this helps

        Reply
        • jlcollinsnh says

          June 5, 2018 at 4:07 pm

          Great point, Wendy…

          …thanks!

          Reply
  3. Dave says

    June 6, 2012 at 4:58 am

    Hi, I’m new here and wanted to say thanks for a really useful blog, which I’m steadily catching up with.

    The only thing that really irks me is that you consistently spell Warren Buffett’s name incorrectly. Like, every time you mention him. It’s not a dig, I just felt you should probably know.

    Reply
    • jlcollinsnh says

      June 6, 2012 at 8:13 am

      Welcome Dave…..

      Glad you’re enjoying it.

      Yeah, Warren’s been bugging me about that extra ‘t’, too. I’ll try to do better.

      Reply
  4. Julie says

    June 17, 2012 at 9:54 pm

    I have not read this article yet, but I saw the first item and just had to comment – I LOVE the Back to the Future reference! Fantastic! Ok, now to read the actual article…..

    Reply
    • jlcollinsnh says

      June 18, 2012 at 6:54 pm

      Ha!

      glad somebody caught the reference!

      The FC was the only thing I could think of with the useful power and serious danger of the market.

      Reply
  5. Jeremy says

    March 8, 2013 at 1:56 pm

    Hey Jim, Love the beer analogy! The foam vs beer comparison is refreshing, has great balance, and a clean and crisp finish

    Reply
    • jlcollinsnh says

      March 8, 2013 at 7:41 pm

      🙂
      Thanks Jeremy…

      ..and I love your take on it!

      Reply
  6. kyle says

    November 30, 2013 at 10:40 am

    Great post, Jim. I’ll take my nice Belgium beer with little foam, sit back and enjoy. It’s important for people to continually to pound it into their heads that at some point in time, they are going to loose a lot of money in the stock market, it’s how it goes, but you have to be patient and ride out the tough spots to gain that money back. It’s counter intuitive to how our fight/flight brains are wired, so you have to show discipline and stay the course.
    You should consider doing a post on the craziness that is Bitcoin right now. People are thinking this is the next big thing, and people are foolishly (IMO) looking at it as an investment. The cyrpto-currency has its pros and cons, but it’s not going to replace the USD or any other currency for that matter, just potentially become a new contender in the currency game. It has to be less confusing to the public for it to be widely accepted, which in its current state, it is not.

    Reply
    • jlcollinsnh says

      December 2, 2013 at 2:36 pm

      Thanks Kyle…

      Truth is everybody makes money in stocks when the market rises. But what investors do when it falls it what determines whether it will make them wealthy.

      I am only vaguely aware that Bitcoin exists and nothing I’ve heard so far makes me want to know more. 🙂

      While it might not always show, I try to write only about those things I actually know and understand. 😉

      I will say one of the reasons I tend to hold minimal cash is that all currencies are somewhat imaginary. That is, any value is a function of mutual agreement subject to constant change. I prefer owning pieces of dynamic, striving businesses = stocks = VTSAX.

      Reply
      • WhateverMeansNecessary says

        March 22, 2017 at 10:41 am

        Saw this comment on humans’ tendency to react by Fight or Flight.

        Is this a good argument for having a Financial Advisor? I know you typically despise them, but what if you found a good one who could talk you off the ledge of selling during a crash?

        I recently received an email from Dave Ramsey’s crew titled, “Want a Secure Retirement? Don’t Fall for these 6 Myths.” One of the myths was, “I Can Do It On My Own.” I immediately chuckled to myself, thinking JLCollinsNH would love this advice! 😉 …and I wonder how much money Dave makes from sending customers to financial advisors.

        But then he went on to say,
        “When you go [sic] it alone, emotions have a way of driving your decisions, causing you to jump in and out of the market when it fluctuates. But trying to time the market only costs you in the end. A pro can help you focus on the long-term and ride out the waves so you reach your retirement goals.”

        Now, I’d rather do it on my own and just ignore market fluctuations. But many people can’t do that. Even when they try, they revert back to Fight/Flight because their emotions are linked to their investments.

        Anyway, a different perspective than I had considered before.

        What say ye?

        Reply
        • jlcollinsnh says

          March 22, 2017 at 11:43 am

          All of that assumes that “professionals” are less likely to cut and run than their customers. However, I’ve seen nothing to support this and have heard countless stories of people who sold at the bottom following their advisors’ advice.

          “despise” is a very strong word. Here is my actual opinion: https://jlcollinsnh.com/2012/06/06/why-i-dont-like-investment-advisors/

          Reply
          • WhateverMeansNecessary says

            March 22, 2017 at 1:54 pm

            Good point. It’s probably just as hard to find a good advisor as it would be to change your personal reaction to the crashes.

            It’s fun to use strong words occasionally. 🙂

            I’ve been enjoying your blog recently. Our family of four decided to live on minimum wage for a year in order to increase our savings rate. We were in need of investment advice. Thanks for the resource! I have a browser perpetually open to the article I’m reading at the time.

          • jlcollinsnh says

            March 22, 2017 at 2:24 pm

            Living on the minimum wage — what a great idea! Do you plan to write about the experience?

            You might enjoy this post from my pal Keith:
            http://wealthyaccountant.com/2017/03/15/thriving-on-minimum-wage/

            and maybe this one of mine: https://jlcollinsnh.com/2012/05/16/stocks-part-vii-can-everyone-really-retire-a-millionaire/

          • WhateverMeansNecessary says

            March 22, 2017 at 3:15 pm

            I am writing about it at whatevermeansnecessary.com —mainly to motivate us to stick with it. My husband works and I stay at home with the kids. We found ourselves justifying our expenses since we were a family living on one “lower than average” income. Then we realized that everyone justifies their expenses based on their income! So we decided to cut back.

            I had not read any of Keith’s blog before. My opinions rewritten in his words! ☺
            Thank you for sharing his article. Now I have another blog to work through once I reach the present on yours.

  7. Chris says

    February 15, 2014 at 10:25 pm

    One thing I don’t get: How is it that supposedly MOST people perform worse than the corresponding index share market?

    Let’s say you are right and one can not predict shares that outperform the market, – is it then not that by pure chance 50 % of us would perform better, 50 % would perform worse, – i.e. would there not a normal bell curve type distribution around the mean?

    This is of course different if I pay fees for a managed fund, or if I pay lots of fees for trading, – but if we take that out of the equation for this question, – if it just came to me deciding to pick my own stocks out of a basked (let’s say the Dow Jones), – would my chances not have to be 50 : 50?

    Thanks for clarifying!

    Reply
    • jlcollinsnh says

      February 19, 2014 at 6:22 pm

      Hi Chris…

      Sorry for the delay. I was actually hoping to get the http://www.madfientist.com to weigh in on this as I’m curious as to what his take might be.

      In any event, my answer is simply that people have an almost endless array of ways to repeatedly lose money in the market:
      Trying to time it
      Trading
      Stock picking
      Bad managers
      High fees

      ..and a bunch more I’m not thinking of just now. So it is not just one event with a 50/50 chance but an endless stream of events, each stunningly easy to get wrong.

      But you are right in this way: If you and I were to choose a given stock and you went long while I went short, we would each have a 50/50 chance of being right.

      In fact this is exactly what happens with each specific trade in the market. For every buyer who thinks the time is now, there is a seller happy to unload. At that moment, only one can be right.

      Index funds, on the other hand, rise relentlessly (although not smoothly) and are self cleansing. as described in this series.

      Make sense?

      Reply
      • LMaS says

        April 11, 2014 at 7:31 pm

        I saw this on your Q&A II and I don’t know if I’m interpreting the question correctly and don’t want to fault your answer, but… I think the question is how is the market not a zero-sum game (before fees of course)? I’m sure I’m missing something, but market timing alone doesn’t seem to explain it on a whole. It seems intuitive that for everyone that buys high and sells low there would have to be someone buying low and selling high. So maybe it’s more a matter of equity distribution, when stocks are high the stocks get spread thin to more people because people are bad a timing stocks, and then when they are low fewer people buy them but get more of a slice. Sorry, too many rambling comments after my afternoon coffee…

        Reply
        • jlcollinsnh says

          April 13, 2014 at 7:41 pm

          I think maybe the missing element in your analisis is that stocks are not simply traded pieces of paper like a casino game in Vegas.

          Rather they represent real, tangible ownership in companies. Each of those companies has the ability and strives to create value.

          Those that do expand the economic pie and this is what keeps the market from being a zero-sum game.

          Make sense?

          Reply
          • LMaS says

            April 15, 2014 at 12:53 pm

            Yes, sorry, game was a bad choice of words, and I get why the economy grows. So maybe zero-sum game doesn’t quite convey what I meant. I was trying to say zero-sum with respect to the overall market. If market indices representing the mean, to say that most people lose money in the stock market implies that the median return is much less than the mean. What explains that? Intuitively one might think that for every person who times the market wrong and sells low, they must be selling to someone so that second person timed the market correctly and you end up with one person losing money and one person making money. Then across the millions of transactions that define the stock market you might end up with a normal distribution with regards to gains and losses relative to the market, sort of like the distribution you’d expect if you had millions of people flipping coins over and over again. But then I realized it only takes one person who timed the market correctly to buy up shares from many people who timed it incorrectly, so the distribution isn’t a nice normal bell… Or is my understanding of the stock market / math still way off?

    • Mad Fientist says

      February 22, 2014 at 12:27 pm

      Hey Chris, Jim’s delayed reply was definitely my fault so I apologize for that. He emailed me to ask if I’d take a stab at replying to your comment and I said I would but I’m only making it over here now.

      Luckily, Jim chimed in with a great response (no big surprise there) so hopefully that answered your question.

      I wrote an article about some of the cognitive biases that cause us to make bad investing decisions so feel to check that out for a few more reasons why most people underperform the market.

      Reply
  8. LMaS says

    April 11, 2014 at 7:13 pm

    Maybe I’m just weird, but when I pour a beer I aim straight for the bottom because I like the foam 😛 I just realized today when talking to a friend about investing that we’ve only ever sold stocks once, to make the down-payment on our house (aside from 401k rollovers or small allocation adjustments which I wouldn’t exactly classify as selling). As a matter of fact, I was referencing this very post. We are both pretty boring investors and were discussing how it’s hard to talk investing with most people who are all “market timing” this and “daily fluctuations” that. They definitely don’t want to be told how they are playing a zero sum game at best (before fees) and are really just gambling in a casino they don’t own at worst. Anyhow, I was mentioning an amazing blog I read that has a great explanation about how crazy it is that people lose money in the stock market despite the fact that the market always goes up 😉

    Reply
    • jlcollinsnh says

      April 13, 2014 at 3:44 pm

      Mmmmmm…

      and what blog would that be, LMaS? 😉

      Reply
  9. Joe says

    September 1, 2014 at 3:50 am

    That Buffett video is “private” now : ( Do you know of another link to it? Or anything else about it that would help me track it down? Thanks!

    Reply
    • jlcollinsnh says

      September 1, 2014 at 11:06 am

      Well that sucks! But thanks for bringing it to my attention Joe.

      I just did some searching and I also can’t find it again. It is “private” now on my original source as well.

      If you happen to locate it again, please let me know. Thanks!

      Reply
      • Joe says

        September 2, 2014 at 11:43 pm

        Do you remember anything about it? There was a (female?) interviewer? Was it for one of those 24-hour cable news channels? Anything that’ll help me find it! I’ve searched and I’m not ready to give up!

        Reply
        • jlcollinsnh says

          September 4, 2014 at 10:22 am

          Check out Addendum #1 above.

          That’s where I originally came across it.

          I’ll ping her and ask.

          Reply
          • Joe says

            September 4, 2014 at 10:54 am

            Thanks! Let me know what you find out.

          • Joe says

            September 21, 2014 at 3:14 am

            I found the original article, but the video is broken there too 🙁

            http://www.huffingtonpost.com/2010/07/08/warren-buffet-on-the-econ_n_639165.html

            I tried to contact the author.

          • jlcollinsnh says

            September 23, 2014 at 11:10 am

            Thanks for reporting back one this, Joe.

            My efforts have also come up empty… 🙁

          • jlcollinsnh says

            November 17, 2014 at 11:35 pm

            Never could find it again and just edited it out of the post. 🙁

  10. Rajib says

    November 17, 2014 at 7:53 pm

    Thanks for writing such an informative series on investing. I am really enjoying reading all of the articles. Just wanted to point out that a link on this article is no longer working.

    https://jlcollinsnh.com/2011/06/02/why-i-cant-pick-winning-stocks-and-you-cant-either/

    Reply
    • jlcollinsnh says

      November 17, 2014 at 11:33 pm

      Thanks Rajib…

      Glad you like it.

      And thanks for pointing out the broken link. Fixed now!

      Reply
  11. No Nonsense Landlord says

    March 10, 2015 at 8:49 am

    All true. I took many stock trading classes. Followed stock charts like a hawk. Put in stop loses and sold covered calls.

    My 401K that I did nothing to beat me every year….

    Reply
    • jlcollinsnh says

      March 10, 2015 at 4:20 pm

      At least you measured your performance against a benchmark. Far too often investors don’t and thus have no idea how their efforts are working.

      I’ve even seen one blogger brag about not measuring his stocks picks against a benchmark, the idea being he wouldn’t change regardless of the results.

      I don’t understand that. I really don’t.

      Reply
    • stunta says

      September 24, 2015 at 2:43 am

      I second that. 10 years ago I picked some Vanguard funds for my 401k simply because I liked the name Vanguard better than the others on the list of available funds. Totally ignored it and looking at the growth, I would kill to have had that in my after-tax brokerage account.

      Reply
    • Rebecca says

      January 26, 2022 at 4:16 pm

      I’m going to try this one day. For experiments sake.

      Reply
  12. Daniel H says

    January 12, 2016 at 4:21 am

    I ran across a strategy that seems like it should beat buying-and-holding and indexing. I’m sure there must be a flaw somewhere in the logic, but I can’t find it. I was wondering if you could point it out for me. Even if it did work, I expect the effort:reward ratio would be much too large for it to be practical for me to do it, but I don’t see why it shouldn’t work in theory.

    The basic point is that the market is not, actually, rational. People assume it is, but humans do a large amount of the trading, and humans make mistakes. If they didn’t, there would be no foam and you’d just have beer, and the title of this blog post would be wrong. In some cases, you can tell when these mistakes are happening and take advantage of them in the short term.

    For example, suppose you see than company XYZ has crashed a lot today. You look into it, and there are rumors that they were cooking their books and will be facing severe penalties. You look into the rumors a bit more, and you see they are completely unsubstantiated. In that case, you can expect that XYZ has very little or perhaps a negative amount of foam on top, and you should buy it; eventually the realization that the rumors are false will hit the general public and it will go up to about where it was before. This can happen in spite of rational professionals because the rational professionals aren’t always paying perfect attention to every stock, might be looking at more long-term strategies, might have algorithms responding to the bad news by selling before the humans have a chance to look into the details, etc.

    This is just one example; there are other cases when some research can tell you that the public is mistaken about some company in the short term. This takes a lot of luck in noticing stocks trading well below their usual values, effort in determining why, and further luck in being able to identify that the reasons are bogus. However, it is sometimes possible, and in those cases it seems like a good strategy is to buy low and sell later when the market has stopped being so irrational about this particular stock.

    What is wrong with this strategy? If you keep your money in index funds except when you identify an irrationality in the market, it seems like you can only fail if you are wrong about your identified irrationality (in which case you should have just been more careful and only done this when you were sure), the gain is not worth the various fees from buying and selling shares (in which case you should have been more careful), or the market remains irrational longer than you expect.

    What am I missing? This strategy does depend on an identifiable short-term irrationality and in theory those shouldn’t occur, but in practice they can. Is it just that the effort involved would not be worth it to most people?

    Reply
    • jlcollinsnh says

      January 12, 2016 at 10:15 am

      Hi Dan…

      First, thanks again for bringing the broken link in https://jlcollinsnh.com/ask-jlcollinsnh/and the inconsistencies in the wording on it and https://jlcollinsnh.com/disclaimer/ to my attention. Much appreciated.

      Regarding the investment strategy, in both those posts, please also note the policy of not commenting on such things under the title: “The investment ideas of others:”

      That said, given your help, let me offer these few comments.

      –The strategy you outlined falls under the category of it sounds easy but isn’t. Kinda like the whole idea that outpacing the index should be easy. All you have to do is not buy the dogs, right?

      –Basically, it is the idea behind all stock-picking: I think I see something others have missed. People able to do this consistently are rarer than baptized rattlesnakes. Which is also why those who have – Buffett — are so famous.

      –At any given time there is so much information flowing around a company, both accurate and inaccurate, the idea that any outside individual is going to be able the hit upon insights not noticed by the legions of market watchers and professionals seems highly unlikely.

      –The exception is, of course, if you happened to work for a company and learned new information that just came to light. Perhaps you were in the meetings where they gathered and are about to release proof that, contrary to rumor, their books are squeaky clean. But that would be insider trading and illegal.

      All this said, if you want to give it a try with some of your cash go for it.

      But be careful, especially if you enjoy some early success. It is very easy to confuse good luck with a new found skill.

      Reply
      • Daniel H says

        January 25, 2016 at 3:04 am

        Thank you for answering. I asked only because the idea could be summarized quickly and did not require you to read a book or blog, and your objections to talking about the investment strategies of others were based on doing so often taking a long time.

        I have no intention of following that strategy; as I said I was sure there were problems with it. It takes a large amount of skill, luck, and effort to pull off, and the reward even if it did work is probably too small. I still think it could occasionally be possible, though; it’s basically a higher-effort, more-probable, lower-payoff version of “wait until there’s a flash crash and then buy cheap”. The difference between this and other strategies is that, as far as I can tell, bad luck with this strategy can be identified in advance (and thus results in not making a trade instead of making a bad trade).

        Since the strategy is only relevant in the short term, the first two objections don’t apply as much; they’re about long-term trading. I completely agree with the semi-strong EMH in the long term, but am less convinced that all public information is at all times perfectly integrated in the short term. That would depend on the large majority of the shares of any given stock belonging to intelligent professional investors who are good at their jobs; the EMH depends on the market behaving rationally, which laypeople are not very good at (hence this post about most people losing money).

        Bringing the discussion away from the specific strategy, I think if we ultimately disagree, the disagreement is over what percent of shares of any given company are owned by such professional investors instead of by the general public. The general public is large, so can be faster to integrate unexpected information, but probably does not do as good a job as professional investors. I would expect that in a lot of cases, laypeople can own enough stocks that the market does not react rationally to unexpected news and the professionals cannot fully make up the difference in the short term. Is there any good data on how much of the market belongs to professionals vs. laypeople?

        Reply
  13. Conrad says

    June 29, 2016 at 11:45 am

    I completely understand that “timing” the market tends to mean buying low and selling high, and that you have to be right twice.

    But what about “timing” the market in terms of only buying low with no intention to sell? It’s hard to find much info on this relatively simple strategy.

    We can pretty much count on the market to go down at least 5% a couple times per year. Why not wait until those down turns?

    Just curious what you would say. I realize it adds a bit of complexity. And maybe it just doesn’t matter enough over the long term to make it worth it…

    I’m pretty new to investing and finally started due to your website and how you broke it down in a way that made it simple enough to understand and therefore pull the trigger. Complexity is the enemy of execution…

    Reply
    • jlcollinsnh says

      June 29, 2016 at 12:21 pm

      Because it can also go up 10% between those 5% drops.

      Or it can march up 20% before dropping 5%.

      Or it can drop 5% and continue on down.

      Or…

      Well, that’s enough for now. 😉

      Reply
  14. Prob8 says

    December 24, 2016 at 10:42 am

    Not that we need it . . . but here is more evidence that mutual fund managers can’t beat the market over time.

    http://www.nytimes.com/2015/03/15/your-money/how-many-mutual-funds-routinely-rout-the-market-zero.html?_r=0

    According to the study, from the start of the current bull market (March, 2009) to 2015, it turns out that exactly zero actively managed funds beat the market.

    The results lead to this statement, which should sound pretty familiar to JLC readers: “The study seemed to support the considerable body of evidence suggesting that most people shouldn’t even try to beat the market: Just pick low-cost index funds, assemble a balanced and appropriate portfolio for your specific needs, and give up on active fund management.”

    Or how about this comment from the article: “’It’s possible that any one of these funds will beat the market over the long term. Some of them will do that. But the problem is that we don’t know which of them will do that in advance.’ And that, in a nutshell, is the kernel of the argument for buying index funds.”

    Reply
  15. Danny says

    January 10, 2018 at 9:23 pm

    First of all great writing and thank you for writing this.

    I have one question. I noticed you said that you should put your money in asap which makes perfect sense. My question is if I wait till the market drops (which could be soon, who knows) would I benefit more from that then putting in my money today?

    Thanks again!

    Reply
    • jlcollinsnh says

      January 11, 2018 at 12:30 pm

      Here you go, Danny:

      https://jlcollinsnh.com/2013/05/22/stocks-part-xviii-investing-in-a-raging-bull/

      Reply
    • Edwin McQ says

      March 24, 2020 at 8:51 am

      well danny, the market has dropped! how are you going since your initial investment?

      Reply
      • Ryan G says

        April 9, 2021 at 5:12 pm

        This is why I love reading comments on old posts. I always wonder how the person is doing now. I would love to think that they all stayed the course and are now multi-millionaires, but I’m sure that’s not the case.

        Reply
  16. Mark says

    July 10, 2018 at 5:44 pm

    Good stuff as always, but you might want to fix that “vanishingly difficult” line. I’d delete this comment, too, since it doesn’t add to the discussion.

    Reply
    • jlcollinsnh says

      July 10, 2018 at 6:17 pm

      Thanks Mark…

      …I always appreciate when readers point out needed corrections, but I don’t understand what fix you are suggesting?

      Reply
      • Mark says

        July 10, 2018 at 9:04 pm

        Here’s the sentence I’m referring to: “Even slightly beating the Index year after year is vanishingly difficult.” It seemed to me that a “vanishing difficulty” is not much of a difficulty; a very very small difficulty. It seems like you would want to say the opposite of “vanishing” if you want to imply something is very difficult. It’s like calling the Empire State Building, “vanishingly large”. “Vanishingly” makes more sense in front of a word like “small” or “low”. Here’s what I got when I asked Google for a definition: in such a manner or to such a degree as almost to become invisible, nonexistent, or negligible.

        Reply
      • jlcollinsnh says

        July 11, 2018 at 12:24 pm

        Inconceivable!
        https://www.youtube.com/watch?v=Z3sLhnDJJn0

        Mark…

        You have me feeling like Vizzini 🙂

        This post has been up for over six years and that use of “vanishingly” is also in my book, which passed thru four proof-readers. You are the first to have called it out.

        Well done!

        I suppose what I was going for was something like:

        “The odds of even slightly beating the Index year after year are vanishingly small.” Which is to my ear a more awkward and clumsy phrase.

        My guess is, most readers’ brains jumped to this, even when the actual sentence, as you point out, says the opposite.

        For this reason, I may just leave it as is.

        But I’m also leaving your comment in place, as you deserve credit for the catch. 🙂

        Reply
        • Froogal Stoodent says

          December 20, 2020 at 6:23 am

          Nope. Not an error.

          “Vanishingly difficult” is a phrase meaning ‘exceedingly difficult’ or ‘very unlikely to succeed.’

          For evidence, just search “vanishingly difficult” – in quotes – on your favorite search engine. You’ll find that professional writers use it the same way that jlcollinsnh used it here.

          It’s kinda like the word “spendthrift.” Logic would suggest that it means someone who is thrifty with his/her spending, but in fact it means the opposite 😊

          Reply
  17. Kunal Dhiman says

    April 12, 2019 at 6:29 am

    Hi,
    That’s not true I have outperformed stock market for the last 10 years continuously. The trick is to buy high yield debt funds when the stock market price to earnings ratio is near 25 and then switch to individual stocks that pay good dividend yield probably more than 3 percent. Further the stock picks should have low pe and 100 percent chance for doubling your investment from the recent peak. Using this strategy I have consistently earned 15 percent a year. Moreover I have received an offer from Barclays to manage an 100 million dollar fund due to my constant outperformance. Stock trading is all about buying when everybody is selling like freaks and selling when every body is buying. Try to maintain the sharpe ratio near 2 for a risk less trading system. Always remember to move to debt funds and high yield bond etf when the market seems overvalued.

    Reply
    • jlcollinsnh says

      April 12, 2019 at 11:16 am

      All due respect and not to be unkind, Kunal…

      I simply don’t believe you. The world is filled with people who claim all sorts of things.

      Nor do I believe the strategy you outlined can be implemented with any reliable success.

      That said, if Barclays is offering you big bucks to run a portfolio grab it with both hands. You’ll make more money getting paid to run the portfolio than you’ll make from it. 😉

      Reply
  18. Richard says

    April 26, 2019 at 7:52 pm

    Hi,
    Just wondering if you have any advice for someone who is already invested in mutual funds and individual stocks on how/when to transition over to an index fund like VTSAX?

    Reply
    • jlcollinsnh says

      April 26, 2019 at 8:02 pm

      Here you go, Richard…

      https://jlcollinsnh.com/2018/06/28/stocks-part-xxxiv-how-to-unload-your-unwanted-stocks-and-funds/

      Reply
  19. Roy says

    May 17, 2020 at 8:25 pm

    JL
    I’m 64 behind on retirement plan to work past 70 . Would you still invest in total stock market index or And total index bond fund would you go 50/50 or some other allocation ?

    Reply
  20. Ryan G says

    April 9, 2021 at 5:09 pm

    This is why I love reading comments on old posts. I always wonder how the person is doing now. I would love to think that they all stayed the course and are now multi-millionaires, but I’m sure that’s not the case.

    Reply
  21. John D. says

    November 22, 2021 at 10:00 pm

    “But get somebody to promise the Dow is going to 20,000 by year’s end or, better yet, is on the verge of careening into the abyss, and brother you’ve got ratings!“

    Amazing how nearly 10 years on (2021) and both of those predictions are now the same!

    Reply
    • jlcollinsnh says

      November 22, 2021 at 10:06 pm

      LOL 🙂

      Reply
  22. Mister Pink says

    July 2, 2022 at 2:04 am

    My sister is 50 years old and recently became disabled. Over the past 30 years, she has managed to save $618,000 by saving most of her salary. She has never invested in the stock market. She believes the stock market is worse than gambling. Because she is unable to work now, she became very concerned that she will outlive her money, so she met with three financial planners and took their advice and on 12/01/2021 invested $600k into the VFORX (Vanguard Target Retirement 2040 Fund). Although this is a ‘Target Retirement” fund, because she is disabled and not working now, she had to invest it in a ‘taxable’ account. She wanted to invest the money little by little over the next few years AKA dollar cost averaging but was advised that she would benefit more by just doing a lump sum investment and have more time in the market with that large sum of money. The financial planners told her that Vanguard has been around forever, they are very well respected in the industry, they created the index fund, and have very low fees. They explained VFORX also invests in bonds, and told her bonds move in opposite directions as equities so even if the stocks go down, the bonds will go up. Last I checked, the bonds within VFORX are also down 9.1%. My sister received $94,187 in capital gains taxes (yes you read that correct, NINETY FOUR THOUSAND ONE HUNDRED EIGHTY SEVEN DOLLARS.) The capital gains were roughly 40 times higher than the amount in 2020 for VFORX. I believe there is a Class Action Law Suit filed against Vanguard because of this. You can read about it here.

    https://www.mymoneyblog.com/vanguard-target-retirement-funds-nav-drop-cap-gains-distribution.html

    I told my disabled sister who saved for 30 years to accumulate 618K only to get hit with a huge capital gains tax and to see it go down over 19 % in 6 months, not to worry because…

    The Market Always Goes Up.

    Reply
    • jlcollinsnh says

      July 25, 2022 at 11:52 am

      Hi Mr. Pink…

      Your comment prompted a full post:

      https://jlcollinsnh.com/2022/07/25/case-study-17-buying-into-the-market-right-before-a-bear/

      Reply
  23. David O says

    December 21, 2022 at 4:08 pm

    Hi Jim,

    I just finished your book and found it to be fantastic. Loved the simplicity and how easy the strategies are to implement. I realized that I have followed your advice (have a significant part of my network in the SP 500 index through VOO & FXAIX) but have also made all the mistakes you pointed out in the book. From buying individual stocks to buying thematic ETFs. As of today, I have mostly lost money in paper (did not sell) on the individual stocks and ETFs. How would you approach this situation? Would you sell the loosing individual stocks & ETFs and buy VTSAX/VOO? I am 47 years old and after reading your book i will not ever buy an individual stock but VTSAX or similar, and just wait….

    Reply

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      • Death, Taxes, Estate Plans, Probate and Prob8
      • Case Study #5: Zero to 2.6 million in 25 years
      • Case Study #4: Using the 4% rule and asset allocations.
    • ► October (3)
      • Republic Wireless and my $19 per month phone plan
      • Case Study #3: Let's get Tom to Latin America!
      • The Stock Series gets its own page
    • ► September (2)
      • Case Study #2: Joe -- off to a fast start!
      • Chautauqua 2013: A Week of Dreams
    • ► August (1)
      • Closing up shop plus an opening at Chautauqua, my new podcast, phone, book and other random cool stuff
    • ► July (1)
      • They Will Kill You For Your Shoes!
    • ► June (4)
      • Stocks -- Part VIII-b: Should you avoid your company's 401k?
      • Shilpan's Seven Habits to Live More with Less
      • Stocks -- Part XIX: How to think about money
      • My path for my kid -- the first 10 years
    • ► May (5)
      • Why your house is a terrible investment
      • Stocks — Part XVIII: Investing in a raging bull
      • Dining with the Ghosts of Sarah Bernhardt and Alfons Mucha
      • How we finally got the house sold
      • Stocks — Part XVII: What if you can't buy VTSAX? Or even Vanguard?
    • ► April (4)
      • Greetings from Prague & a computer question
      • Swimming with Tigers, a 2nd chance on the Chautauqua, a financial article gets it wrong and I'm off to Prague
      • Storage, Moving and Movers
      • Homeless, and a bit on the strategy of dollar cost averaging
    • ► March (4)
      • Wild Turkeys, Motorcycles, Dining Room Sets & Greed
      • Roots v. Wings: considering home ownership
      • How about that stock market?!
      • The Blog has New Clothes
    • ► February (5)
      • Meet Mr. Money Mustache, JD Roth, Cheryl Reed & me for a Chautauqua in Ecuador
      • High School Poetry, Carnival, cool ads and random pictures that caught my eye
      • Consignment Shops: Best business model ever?
      • Cafes
      • Stocks -- Part XVI: Index Funds are really just for lazy people, right?
    • ► January (5)
      • Social Security: How secure and when to take it
      • Fighting giraffes, surreal landscapes, dancing with unicorns and restoring a Vanagon
      • My plan for 2013
      • VITA, income taxes and the IRS
      • How to be a stock market guru and get on MSNBC
  • ► 2012 (53)
    • ► December (6)
      • See you next year....until then: The Origin of Life, Life on Other Worlds, Mechanical Graveyards, Great Art, Alternative Lifestyles and Finding Freedom
      • Stocks -- Part XV: Target Retirement Funds, the simplest path to wealth of all
      • Stocks -- Part XIV: Deflation, the ugly escort of Depressions.
      • Stocks Part XIV: Deflation, the ugly escort of Depressions.
      • Stocks -- Part XIII: The 4% rule, withdrawal rates and how much can I spend anyway?
      • How I learned to stop worrying about the Fiscal Cliff and you can too.
    • ► November (2)
      • Rent v. owning: A couple of case studies in Ecuador
      • So, what does a month in Ecuador cost anyway?
    • ► October (4)
      • See you in December....
      • Meet me in Ecuador?
      • The Podcast: You can hear me now.
      • Stocks -- Part XII: Bonds
    • ► September (6)
      • Stocks -- Part XI: International Funds
      • The Smoother Path to Wealth
      • Case Study #I: Putting the Simple Path to Wealth into Action
      • Tales of Bolivia: Calle de las Brujas
      • Stocks -- Part X: What if Vanguard gets Nuked?
      • Travels in South America: It was the best of times....
    • ► August (1)
      • Home again
    • ► June (4)
      • Yellow Fever, closing up shop for the summer and heading to Peru y Bolivia
      • I could not have said it better myself...
      • Stocks -- Part IX: Why I don't like investment advisors
      • Happy Birthday, jlcollinsnh; and thanks for the gift Mr. MM!
    • ► May (6)
      • Stocks -- Part VIII: The 401K, 403b, TSP, IRA & Roth Buckets
      • Mr. Money Mustache
      • The College Conundrum
      • Stocks -- Part VII: Can everyone really retire a millionaire?
      • Stocks -- Part VI: Portfolio ideas to build and keep your wealth
      • Stocks -- Part V: Keeping it simple, considerations and tools
    • ► April (6)
      • Stocks -- Part IV: The Big Ugly Event, Deflation and a bit on Inflation
      • Stocks -- Part III: Most people lose money in the market.
      • Stocks -- Part II: The Market Always Goes Up
      • Stocks -- Part 1: There's a major market crash coming!!!! and Dr. Lo can't save you.
      • You can eat my Vindaloo, mega lottery, Blondie, Noa, Israel Kamakawiwo 'Ole, art, film and a ride on the Space Shuttle
      • Where in the world are you?
    • ► March (7)
      • How I lost money in real estate before it was fashionable, Part V: Sold! and the taxman cometh.
      • How I lost money in real estate before it was fashionable, Part IV: I become a Landlord.
      • How I lost money in real estate before it was fashionable, Part III: The Battle is Joined.
      • How I lost money in real estate before it was fashionable, Part II: The Limits of the Law.
      • How I lost money in real estate before it was fashionable, Part I: Impossibly Naive.
      • You, too, can be conned
      • Armageddon and the value of practical skills
    • ► February (6)
      • Rent v. Owning Your Home, opportunity cost and running some numbers
      • The Casanova Kid, a Shit Knife, a Good Book, Having No Regrets, Dark Matter and a bit of Magic
      • What Poker, Basketball and Mike Whitaker taught me about Luck
      • How to Give like a Billionaire
      • Go ahead, make my day
      • Muk Finds Success in Tahiti
    • ► January (5)
      • Travels with "Esperando un Camino"
      • Beanie Babies, Naked Barbie, American Pickers and Old Coots
      • Selling the House and Adventures in Staging
      • The bashing of Index Funds, Jack Bogle and a Jedi dog trick
      • Magic Beans
  • ► 2011 (22)
    • ► December (1)
      • Dividend Growth Investing
    • ► November (2)
      • The Mummy's head, Particle Physics and "Knocking on Heaven's Door"
      • "It's Better in the Wind" or why I ride a motorcycle
    • ► October (1)
      • Lazy Days and School Days
    • ► July (2)
      • The road to Zanzibar sometimes goes thru Ecuador...
      • Johnny wins the lotto and heads to Paris
    • ► June (16)
      • Chainsaws, Elm Trees and paying for College
      • Stuff I’ve failed at: the early years
      • Snatching Victory from the Jaws of Defeat
      • The. Worst. Used. Car. Ever.
      • Top Ten reasons your future is so bright it hurts my eyes to look at it
      • The Most Dangerous Words Your Customer Can Say
      • How not to drown in The Sea of Assholes
      • What we own and why we own it
      • The Ten Sales Commandments
      • My ever so formal and oh so dry CV
      • How I failed my daughter and a simple path to wealth
      • The Myth of Motivation
      • Why you need F-you money
      • My short attention span
      • Why I can’t pick winning stocks, and you can’t either
      • The Monk and the Minister

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