4 investment "lessons" from the WSJ

A column from the WSJ Sunday was reprinted in my local paper - the News and Observer. The title of the column is "Even the smart guys don't always get it right" by Scott Patterson.

Patterson wrote a book called "The Quants: How a New Breed of Math Whiz Conquered Wall Street and Nearly Destroyed It". I haven't read the book, but based on Patterson's column, I don't think I'll waste my time.

Patterson offers four lessons for individual investors from Wall Street "quants". Each one of these "lessons" is basically a lesson for wealth destruction. It is actually quite amazing how one guy could offer so much bad advice in one article. In fact, I don't think he makes a single intelligent suggestion. Anyhow, let me explain why each one of these nuggets of wisdom is pure idiocy.

1. Forget the old lessons - don't index and forget buy and hold. Individuals need to become more active in managing their portfolios.
Study after study has shown that the only element of investing that the individual can reliably control is costs. Therefore individual investors should invest in broad, well diversified index funds. Furthermore numerous studies have shown that "active management" - especially by individuals is a sure fire way of destroying wealth. Trading costs will eat you alive.

2. Active management doesn't mean role the dice more often
No, says the "expert" in the piece, it means looking for trouble and ducking for cover sooner rather than later. Great advice, if you have a crystal ball. Otherwise, you'll just end up trading too much. The problem with ducking for cover sooner is that there is no way you know what is going to happen later until it has happened.

3. Sell a stock at the first sign of trouble
Again, how do you know whether the "trouble" is a bump in the road, or a major meltdown. You don't. But selling at the first sign of trouble guarantees you'll make the right call about 50% of the time. But you'll eat the transaction costs 100% of the time.

4 Invest only in the cheapest stocks
Brilliant! Why didn't I think of that? Oh yes, and use the P/E ratio as your stock selection tool. Nothing will go wrong there.
First of all, cheap stocks are often (in fact nearly always) cheap for a reason. They are low growth and high risk. It is the same reason why some houses are cheap compared to others - they have problems. While there is some evidence of a "value effect" - that is low P/E stocks out perform high P/E stocks in the long run, this strategy only makes sense at the portfolio level, and many debate whether it is really a true anomaly and not just compensation for extra risk.

Finally the article says "in general be more vigilant". This is about as useful as telling a basketball player to "try to be taller".

Overall, this article is the stupidest thing I have read all week.

The "sensationalist Wall Street Journal"

Felix Salmon delivers a take down of the Wall Street Journal. His argument is that since Murdoch took over, the paper has become increasingly sensationalist and less objective.

I used to be a subscriber to the Journal. Even though I frequently disagreed with a lot of what was written on the editorial page, I found the rest of the paper to be pretty even handed. I don't think that this is the case now. I also don't subscribe anymore.

HT: Felix Salmon

How the credit card industry works

The Daily Show's take down of the credit card industry. Not entirely safe for work.

The Daily Show With Jon Stewart	Mon - Thurs 11p / 10c
Make it Rain - Bank of America
www.thedailyshow.com
Daily Show Full Episodes Political Humor Vancouverage 2010

Why you should consider TIPs

for a retirement portfolio.

For my MBA students - The Bodie quoted in your article wrote your text book.

NYU Prof and the late MBA

This is making the rounds and is pretty much viral...

Excellent stuff!

HT: Newmark's door.

I have something in common with Warren Buffet!

I also play the ukulele badly...

A few great videos

Videos from Paddy Hirsch from marketplace.org - they're mostly pretty straightforward, but worth watching.


Ratings conflicts...



How the banks are still making money...


Interest rates and economic stimulus...


Hostile takeovers...



There are many other worthwhile videos on the marketplace channel on youtube.

You can also check out the marketplace website...

Interest expense and taxes

We know from basic corporate finance that firms can deduct interest expense from their taxes. I didn't realize that if you have enough debt, you could actually have a negative tax rate.

Hard to believe, but the Government will actually pay you to lever up.

Greece uses swaps to hide borrowing

An interesting article on how Greece used swaps to, in effect, hide borrowing....

Can you profit from momentum?

Probably not, unless you have really really low trading costs.

More wisdom from Fama and French