Streetwise

Lauren Rudd

Sunday, July 8, 2012

There Is An Old Joke...

“There is an old joke that Wall Street has a river at one end and a grave yard at the other. Yet, this is strikingly incomplete. It omits the kindergarten in the middle.” Fred Schwed, Jr.

That quote comes from Fred Schwed’s book “Where Are the Customer’s Yachts,” originally published in 1940. Many years later, Barron’s, a bastion of financial wisdom, had a sudden epiphany and subsequently penned the profound thought that successful brokers all seem to have nice cars but only a few investors do.

As an illustration of how little progress Wall Street has made with regard to the clarity and accuracy of its seemingly never ending torrent of investment advice, allow me to first paraphrase a quote from that hallowed purveyor of financial reporting, The Wall Street Journal, as found in Schwed’s book.

“During the slow rise from the April lows, the action of the market was regarded in the nature of a technical recovery, with little thought of the imminence of dynamic action. Resistance, as expected, was encountered just below 140 for the Dow; but after a one-day decline, volume dwindled and the market presently appears to be in somewhat of a consolidation.”

Have things changed in the ensuing years? Not really. The approach has merely been updated with much of the market mumbo jumbo being replaced with slick but evasive advertising campaigns. The average investor is still viewed as raw meat to a voraciously hungry investment industry.

For example, facing a slump after the financial crisis, JPMorgan Chase, one of the nation's largest mutual fund managers, targeted ordinary investors in a program designed to make up for lost earnings, with the emphasis being on sales rather than client needs. The logic was that the more money garnered by the bank's mutual funds, the more fees it collects for managing them.

Yet, over the last three years roughly 42 percent of the bank’s funds did not exceed the average performance of funds that make similar investments, according to Morningstar.

By focusing on selling mutual funds that it creates, also known as proprietary funds, JPMorgan condones a controversial practice that many companies have backed away from because of the perceived conflicts. And JPMorgan has previously run into trouble for pushing its own funds. In a 2011 arbitration case, it was ordered to pay $373 million for favoring its products, despite an agreement to sell alternatives from American Century.

However, not all the blame for poor investment decisions, and subsequently poor returns by individual investors, can be laid at the feet of Wall Street’s titans. Sometimes investors do themselves in. Going as far back as October, 1929, a few days before the market crashed, Irving Fisher, a well-known monetary economist, confidently predicted that, "Stock prices have reached what looks like a permanently high plateau."

Not to be dissuaded Fisher continued to assure investors that a recovery was just around the corner for months after the market crashed.

Fisher’s mistake, which is so often repeated by others, is that he was blind-sided by his own biases.

Although Fisher’s investment demise resulted from an overly positive outlook, the reverse can occur just as frequently, if not more so, and can be just as deadly to the overall performance of your portfolio.

Letting your emotions or personal bias drive your investment strategy can be expensive. Let me offer a more profitable approach. If a company has historically strong fundamentals, a solid business plan going forward, astute management and you understand the company’s business philosophy, then buy the shares and hold them with the understanding that share prices will fluctuate somewhat in sync with overall market direction.