So very like Spinoza himself, who locked himself up with Aristotle and Maimonides before coming out with his great works, Baruch has been consulting ancient texts; in this case, the books of Peter Lynch, especially the all time classic One up on Wall Street. Lynch of course was and is famous for his advice to his readers to invest directly in single stocks, to “buy and hold”, in the parlance. This is now a heretical doctrine, but Baruch thinks its time has come. Or rather, come again.
So let’s say it: I think the best thing for moderate net worth retail investors to consider right now is to take their retirement account back into their own hands. I think people should start to do some research with the aim of buying 3 to 5 single stocks, maybe just as an experiment. And if the experience is good, they can do it, and they gain expertise, they should make single stocks a big chunk, say 1/3 or more, of their retirement account in the next 10 years.
Not many people in the econoblogosphere and beyond will tell you that this is a good thing to do, not least because in many cases it is them and their ilk you have been outsourcing it to all these years.* Even those who don’t have an axe to grind will likely be mildly horrified by such advice. Take Felix; a couple months ago he wrote:
we don’t want . . . a world where most companies are owned by a small group of global plutocrats, living off the labor of the rest of us. Much better that as many Americans as possible share in the prosperity of the country as a whole by being able to invest in the stock market.
Right on, Felix! And of course, the best way of guaranteeing this is surely by having Americans (why only Americans?) invest directly in stocks!
Well actually no. Felix hurries to reassure us in his very next line
I’m not saying that individual investors should go out and start picking individual stocks.
Felix is clearly aware where his train of thought is leading, and is keen to retain his position as a prominent econo-blogger who is taken seriously. Telling people to pick individual stocks, however, is clearly the path to ridicule.
For a more concrete list of conventional wisdom on the main reasons not to own stocks look no further than this post by James Altucher, which is misconceived on so many levels it is hard to know where to start, but makes up for this by at least being entertaining.
Let us pity the mid size retail investor — the ones with enough capital that it matters, but not enough to get access to pre IPO Facebook stock. They are the battery hens of the financial service industry, on the receiving end of the least bespoke and the most exploitative service available. These guys get a lot of advice, much of it worthless, and all of it conflicting; they are the key demographic for most of the for-money blogs, newsmedia, and the Old Man newsletters (as Josh at TRB puts it so well). If you are one of this accursed, confounded and confused group, a forgiveable reaction is to put your fate in the hands of a retail broker at e.g. Merrill Lynch or UBS. Knowing your luck, you’ll end up in a range of very reasonable sounding knock-in/knock out structured products you barely understand. They’ll have you picking up the nickels in front of the steamrollers that catch up with us every 5 to 10 years, charging a hidden 2% load for the privilege of eventually blowing you up.
The gift of Peter Lynch, if you play your cards right, if you make the right mental breakthroughs, is that you can leave all the babble behind. With practice and dedication, and a supreme act of will, you can tune it out and make it irrelevant. The main reason very few people will urge you to do this is that there is not a lot of money in it for them and you may stop reading their blog. Taking charge of one’s own investment future, if you can, is simply much more rational than handing it over to the mishmash of conflicting incentives that is the financial services industry. It’s not unthinkable; it’s the logical thing to do!
It is not true that individual investors are always going to lose when they enter a stockmarket dominated by sophisticated insitutional investors like, well, like me. I have a huge disadvantage stopping me from doing the right thing; timeframe. I have a boss breathing down my neck to whom I have to justify my bigger trades as well as my weekly, monthly, quarterly and annual returns. I have a liquidity constraint. Some of the most interesting ideas can’t make it in my fund if there is not enough daily volume to take a meaningful position. I cannot “dollar cost average”. My investors like to invest more at the top of the market, and panic at the bottoms. I have to be largely fully invested at all times, and I have to spread my genius over a diversified portfolio of 30-80 stocks. I have to avoid market strife and drawdowns. I cannot embrace declines in the way that I should. I have to watch every twitch of the market. I have to worry about things like the VIX.
You don’t! Really. You can really be a long term investor and you won’t ever have to know what the VIX is. You can make it easy for yourself. Buying stocks is lucrative, and quite often even fun. Believe it or not, in the dim and distant past, normal people used to do it all the time! What really put the kibosh on it was the 1999 bubble and the lost decade for stocks. Before that, “buy and hold” was not as it is now considered a filthy and dangerous practice, like trying to indecently molest a cheetah. Rather it was the key way to create value in retirement accounts over time and a hobby for investment clubs across the developed world.
Peter Lynch’s 3 great insights are these: i) everyone knows about something, ii) only buy what you know. and iii) you absolutely have do the work. This means above all don’t buy hype or listen to stock tips in areas you are unfamiliar with. Don’t buy “cloud” stocks unless you are a software engineer. Only buy the latest genetic sequencing concept stock if you are geneticist or terribly interested in genetics. If you are a dentist, you actually have a edge over me when it comes to the long term trends in the dental implant business. If you are a plumber , you will know about, I don’t know, new types of pipe or something; or suppliers who have improved their pipes and are winning back market share. In his books, Peter Lynch talks about how much he loved retail. He famously used to grill his kids and his wife on what they were buying, and would visit shopping malls with them to get ideas. That got him into huge gains in stocks like Hanes, the owners of L’Eggs, and The Body Shop.
Instead of buying sexy stocks, penny stocks, or the “next big thing”, he urged, we should buy boring and safe. Even better, stocks which are faintly disgusting, like waste management stocks, gravel pits, or rat breeders. Stocks with an excess of “K”s in their names, like Safety Kleen, stocks which were ignored by Wall Street analysts, were the ones he wanted to buy. Baruch has found this to be true in his career, too. His greatest winners have been stocks where there was no analyst coverage (at least in English), which no-one had heard of.
Lynch is also very clear that it isn’t enough to just think of cool trends before going off to buy the stocks exposed to them. That is just the start of the process. To do this properly, and make money, there is also a lot of work involved, looking at balance sheets, finding out about valuation, making sure the PE divided by the EPS growth rate is not over 1, for instance. It demands a level of financial literacy that a lot of people don’t believe you are capable of. You’ll probably have to look at 15 stocks and probably more to find 3 you will like. This will take time. If you can’t spare it, don’t start. But if you are one of those people, like me, who take a month of cogitating and comparing peformance statistics before buying a new car, or can rattle of the RBIs (whatever that is) of 10 baseball players, you may have the mental resources, enough of an inner nerd, to have a go.
His books also make clear that a degree of “bottom” is also strictly necessary to do this properly. You need the independence of mind to dismiss fallacious arguments from impeccable sources; the courage to continue to invest, month over month, year over year, even after reading a John Maudlin newsletter; and the mindset that welcomes a big market selloff as the opportunity to buy some stocks really cheaply.
Your timeframe should be that of a Buffet. Not Steve Cohen’s, or mine. If you invest the same way as people like me you are doing it wrong. People like me will take you out to the woodshed and you will get, as my Oregonian friends charmingly put it, “stump broke”. In this Altucher is right. I turn over my portfolio well over 3x in a year. You should do less than 50%, probably 20%-30% is optimal. I think of a stock position in terms of weeks and months; you need to think in years. I check my portfolio obsessively every 5 minutes or so, and field calls about my core bets 2-3 times a day. You should check your stock prices once a week (or every month, if you can), and give each stock a check-up every six months or so. I might be out of a job in 12 months, and for me that is the long term. For your overall portfolio you need to think in units of 10 years (more on this later, I hope).
Of all the strange things I am urging people to do, this bit is maybe the hardest and where you are most likely to come unstuck. The entire financial media and most of the blogosphere is about this news cycle, who is doing well now, who is buying who, what the charts are saying, which sectors are hot and which are not. This is where the act of will comes in, the filtering, the wilful ignoring of most the facts, of the charts, and the blogs swirling around you. It is hard to make the mental breakthrough that in the long run the gross margin of Safety Kleen is more important to your portfolio than whether Greece defaults or not. And that if in fact Greece defaults and China rolls over and the world appears be at an end that people will still need to mop up grease spots or whatever it is that Safety Kleen does, and all that has happened is you now have a bargain price to buy more Safety Kleen with part of this month’s paycheck.
Above all, the key to success in investing is about taking responsibility for your investments. If things go wrong with your stock, it is not Bernanke’s fault. It is not your broker’s fault. It is not the fault of the guy who gave you the idea on his blog, or as part of his trading system, or the supposedly smart hedge fund manager who you read about who had it in his portfolio. It is yours. You did it. When you internalise this great truth, you will set yourself free. You will realise that you have as much right to an opinion as anyone else about something you have researched and thought hard about. And you will see that working hard to see a truth that others have ignored, putting skin in the game, and reaping the benefit of being right, is one of the great pleasures of life.
Right now we’re in a period of huge wealth creation in the most populous parts of the world, economies are more open and globalised than ever before, and we are blessed with stock valuations below the average of the last few decades. We had one of the worst crises ever and we came through it. Even Felix and Altucher are keen to point out just how much they like stocks as an asset class here. However, short term, things look a bit peaky and a decline may be imminent. The typical summer seasonality, and the approaching end of QE, are probably not going to help. If you’re not invested, this should be music to your ears. If you are, I shouldn’t worry. Overall though, I think now’s probably a good time to start investigating some stocks to buy in the next 3 to 6 months or so.
* this is also the case for Baruch, who should urge you to put all your money in certain sector funds, managed by him, but who won’t because really it is not a sensible proposition (although at least some won’t hurt you).