Do you sincerely want to be rich? That was a question that Bernie Kornfeld, a latterly convicted swindler, used to ask his audiences as he pitched them on the merits of buying his product, a “fund of funds” that used investors’ money to buy several layers of mutual funds. At most or all of the stages, Mr. Kornfeld charged steep fees to the investors when those same investors could have just bought the funds themselves for modest fees. (Of course, those fees were chump change compared with what hedge fund managers now charge, but that’s another story.) Mr. Kornfeld himself did sincerely want to be rich. He used his winnings to buy lavish homes and beautiful women—or at least so he considered them. Eventually, he went to prison for fraud in faraway Switzerland.
But that is a digression. His basic question still makes a lot of sense. Do you sincerely want to be rich?
If you do—and who doesn’t—then you must step up to the plate and swing for the fences. That means you have to try to pick the stocks that will outperform the market. You do not want to just buy the broad indexes like the Dow Diamonds, an index that replicates generally the performance of the Dow Jones 30 industrial stocks. Yes, just buying and holding this index over the postwar period would have given you returns vastly superior to those of almost any managed mutual fund or portfolio of wealth managers. The data is overwhelming on that point.
There is simply no way that even the most well-trained, most intelligent investment managers have been able to beat the Dow over long periods except in the rarest of cases.
But that means that your investments would be merely keeping up with the market. Your investments would be performing at best in an average way. You are not an average guy. So why should you shoot to be average in your investment returns?
Never mind that just keeping up with the average of the Dow will give you returns stupendously superior to the returns of almost every stock picker over long periods. Your friends at the golf course will still consider your returns “average,” and what is there to brag about in that?
Likewise, you don’t want to buy the Spiders, the index that closely (not exactly) replicates the returns of the Standard & Poor’s 500 Stock Market Index—generally speaking, the stocks of the 500 largest publicly traded corporations in America.
Yes, true, data has been amassed showing that while there will be years in which many stock pickers outperform the S&P 500 Index, over long periods almost no one outperforms buying and holding that index. Yes, just recently in the chaos and terror following the banking and real estate crisis of 2008, there were a goodly number of money managers whose funds outperformed the Spiders. That was because the Spiders were heavily weighted toward banking and financial stocks and those were deeply wounded in the Crash of 2008 while nimble money managers might have been able to get out of that sector before the worst damage was done.
Nevertheless, over long periods, even over the period following the crash until now, as I am writing in spring 2012, the S&P 500 has greatly outperformed the huge majority of mutual funds as well as most hedge funds that report results.
Still, that incredibly powerful record of the large indexes beating the stock pickers will not save you from the accusation that you are no better than an average investor. Again, you are doing neither more nor less than settling for average performance.
Of course, “average performance” might be better defined as the average results of average investors, rather than the average returns of the whole market. By that measure, the performance of the indexes beats the achievements of investors by a truly staggering margin.
A genius professor at Emory University named Ilia Dichev and several other geniuses have documented the long-standing truth that rapid trading by the ordinary investor of individual stocks does not yield returns even close to those of buying and holding the broad indexes. The differences are so large as to make stock market investing by picking stocks barely worthwhile. They are so large as to make even being in the stock market at all seem questionable if you are going to jump all around all over the place.
In fact, as your humble scribe writes this, the true super genius of investing, Warren Buffett, is out with his annual Berkshire Hathaway (BRK) report. In it, his letter reaffirms what he has been saying for decades: that even a genius like Buffett cannot outperform the market for long. Indeed, his long-term results for picking stocks, which were once staggering, now barely exceed the S&P 500s performance since the founding of BRK. This, by itself, is hair-raising news. It should make every stock picker unable to sleep at night.
Still, the schoolyard bullies and teases will tell you that you are a chicken and a wimp, and that you are—again—settling for no better than average returns.
You could go for an even wider index—an index that includes virtually every stock of any size at all in the United States, such as the Russell or Wilshire indexes. They would reach into the corners of investing and make your performance even better. Your performance (in particular if you buy and hold) versus the performance of the average stock-picking, trading investor would be spectacularly superior. The differences would be breathtakingly in your favor if you bought and held the widest possible index for all of your working life.
There are even indexes for the whole world. There is, just for example, the Vanguard Total Stock Market Index (VTI), which includes almost every public corporation of any size anywhere in the world. You can buy that and get pieces of the action everywhere, from Switzerland to South Africa to Spain to Sweden, and from the United States to Uruguay and Ukraine, and from Great Britain to Israel. This index would be subject to effects from regional crises such as the current Eurozone problems, but over time, if history is any guide, your results would put to shame the results of men and women who were ordinary or even very good investors.
But, une fois de plus, the kids who like to make you cry out by the monkey bars would tell you that your returns were merely average.
The horrible truth is that these bad boys have some truth on their side. Yes, the returns from indexes will be excellent compared with the returns of the average investor. But you will not get the returns that (used to) make a Warren Buffett or a Seth Klarman, genius manager of the hedge fund called Baupost Group. You will get good enough returns to satisfy a normal human being, but that just brings us back to the basic issue:
You are not a normal, average Jane or Joe and you do not want average returns. In your heart, as you very well know, you are legions ahead of those average investors, and even legions ahead of the indexes. You are a superior man or woman, and you must have deeply superior results. You do not want stocks that do well. You want the next super-stock, the next Microsoft, the next Google, the next Facebook. You want the stocks that will go up 10,000 times in value and make you the owner of an estate in Bel Air with showgirls on your arm and doormen bowing and scraping as you walk into the lobby of every fine hotel in the world.
That means you have to go past the indexes—way, way past them. You have to roll your sleeves up and do the basic research, the in-depth analysis, the burning of the midnight oil that will get you to the Gates of Eden.
Now, some of those same spoilsports who told you that your results with indexes were merely average will tell you that there are already tens of thousands of young brilliant minds working with every tool in the book to find these great companies. (A mind is a terrible thing to waste.) And with all of the tools and devices on this earth, they rarely if ever beat the markets by picking individual stocks.
These same mean-spirited creeps will tell you that those people (or ones like them) brought us the catastrophic Internet crash of 2000–2001 and the financial wipeout of 2008–2009. The masters of Wall Street turn out to be outgunned by reality decade after decade. (What is an index-fund investor? A stock picker mugged by reality.)
By the way, some might say that those same types of geniuses work for the big mutual funds and bank trust departments, and whose results do not even come close to the results of the indexes. Those same people write the advice-to-the-investment-lorn columns and pick stocks on TV shows that rarely do well over long periods. (How do you know when to sell? When they say to buy.) Those meanies will tell you that, really, there are hardly any ways to beat the market. (These are the nice meanies, not the evil meanies who urged you to get way-above-average returns.)
DON’T LISTEN TO THEM! YOU CAN PICK STOCKS AND BEAT THE MARKET!!!
You don’t need libraries and mainframes. All you need is love of yourself, the trust you have in your own fingertips running down the lists of stocks online, and a feeling that tells you when to buy and when to sell.
It’s that feeling, not intellectual rigor, not experience—just that feeling—that will take you to the next Facebook, the next Berkshire Hathaway, the next Microsoft. You can pick stocks.