| Investment Strategy Evaluations |
1. Individual stocks – the returns looking back in time are tempting: Walmart, Microsoft, Cisco, Dell, Apple, the list goes on. How many times have you heard someone say if I just would have invested in these stocks early on, I would be retired by now? Like most things, you can find small samples that excel in any aspect of life. Sports, careers, and stocks all have a few stellar examples. But just like thinking our kids are going to be the next Michael Jordan, the odds of selecting that shooting star of a stock are very slim. A more important flaw in owning individual stocks is most of them fall faster than they go up. Below is a brief list of ways to lose money in individual stocks:
A. The market crashes and your stock(s) go down the tank with it.
B. The stock misses earnings or some other expectation and it falls.
C. One of my favorites, the media announces the CEO of your favorite new stock has just been accused of criminal behavior and your stock drops 50% in one day.
In summary, there are no legal ways to predict the events above and individual stocks do not offer the limited downside protection of other investments. Of course you can buy 30 or 50 of them to diversify but then you are picking stocks that don’t best match your selection methodologies and it is very difficult for even the full-time professional to have an in-depth knowledge of this many holdings. How much time do you have or want to spend monitoring stocks?
2. Mutual Funds – like most people I’m sure you’ve read magazines or done web searches to find funds that are performing well. It is one of the market’s cruelest jokes that about the time you find the Holy Grail fund, it is probably close to the end of its good run. It may not even be the manager’s fault. Often it is simply the style or sector this manager is benefiting from has run its course. The market will then move on to another sector or style and this fund will be average at best. I’ve owned some of the best funds on the planet with stellar managers only to see the market change within months of buying the fund and even lost money with these "great" funds. I won’t even go into the extra costs, distributions, and limited buy and sell control that hinders most funds from performing well. Most funds are also required to be fully invested even if the manager knows the market is unstable. A fund manager with "billions" invested cannot exit the market. You and I can and are foolish not to if the risk indicators are telling us to do just that. The manager’s only downside protection is to move to safer or lower beta stocks that will hopefully fall slightly less than other stocks. This plan isn’t safe enough for my money. How about yours?
3. Buy and Hold – if you are reading this, you have probably been sold on this philosophy and have figured out it doesn’t work very well when the market corrects and/or crashes. As of early 2009, the S&P 500 which can represent the holdings of a large percentage of investors is still below its levels at the beginning of 1998. So if you are a Buy and Hold investor that has been around for a while, you have most likely lost money over the past 11 years. You also have taken a financial beating over the past 15 months. To be fair I’m not including dividends or inflation in this comparison but inflation is higher than most dividends so you are losing that battle too. We haven’t even discussed the ulcers we have all experienced during 20%, 30% even 50% market declines. Maybe the most significant problem with the Buy and Hold plan is the assumption the market will always go up. Step back for a moment and dwell on this for a while. There is little guarantee of this assumption. It has held true that over 20 year time spans the market rarely loses money. If you are less than rich like most of us, not losing money will not get us to our retirement goals. We need to make money. With all of the issues and challenges that exist in the world today, I’m not willing to bet my life savings the market will keep going up during my life time much less the next 5 or 10 years and you shouldn’t either.
Another problem with Buy and Hold is when you retire you are guided to move your allocation from mostly stocks to a good portion of Bonds or cash investments. With the current market and portfolios like this down about 40% to 50%, individuals retiring now are finding themselves ironically on the bad end of timing the market. Where will the market be when you are ready to retire?
4. Diversification/Allocation – most of the big firms sell this idea to millions of investors. Put x% of your money in a diversified selection of stocks or mutual funds and x% of your money in bonds or cash. Invest more in stocks/mutual funds when you are young and then transition more to bonds when you are older.
There are many flaws in this logic:
A. You will always be invested in something that is likely to have low returns. Bonds rarely have good returns unless the market is crashing in which case your stock losses will likely be more than your gains in bonds. You will also be in sectors that are poor performers to “properly” diversify.
B. When the market in general crashes, you will lose money too. You may lose somewhat less than someone with a focused portfolio but then again this isn’t a competition against other investors it is? Be honest with yourself, most of us just want to make money whether our neighbor does or not.
C. Probably my favorite flaw in diversification/allocation is this: when you are young and don’t have a lot of money, you are invested more in stocks so your percentage return will likely be higher but not your dollar return. Then when you get closer to retirement, you are advised to move more of your money into bonds and/or cash. This is likely the age you actually have a sizable amount of money invested and need to experience some strong dollar gains in order to reach your retirement goals.
5. News Speculation – this is what I call the investor who monitors news events, watches investment shows, and/or searches the paper or magazines to gain an edge. Most of us have tried this at one point or another in our lives. The problem with this plan is there is “far” too much information in the world to read and evaluate. You could spend 24 hours a day following numerous sources and you would still have very little idea of what is really going on now or much less, what is going to happen in the future. More importantly, "what" is driving the market is "always" changing. Low P/E's, growth companies, pension/hedge funds buying or selling, etc. There is no reason to chase all of this information.
So what investments are left for us and available to the general public? After being taught the hard way about the choices above, we began to search for something more. We all know there is a “lot” of money to be made in the stock market and most of us just want to get a small piece of it. We wanted to find something that earned market returns or better while virtually eliminating the chance of losing money. I’m sure most of you have seen the math about losing money and how long it takes to make it back. The S&P 500 recently lost almost 50%. It might take the average investor many good years or a decade to get their net worth back to where it was in October of 2007. How many more decades do you have?
At this point, we weren't too convinced any of the above strategies would work for us or anyone for that matter. So how does one avoid the dangerous flaws discussed here and make good consistent money in the market? Click the "Achieve Retirement" tab and we will share with you how we are doing this...............
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