Five Profitable Investing Ideas You Won't See Discussed Elsewhere

By: Tom Madell | Tue, Apr 29, 2014
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Being a self-taught investor over the last 30 years, most of the knowledge I've acquired has come from actual experience, experience that is often at odds with much of mainstream advice that seems to be almost commonplace. Not that all of the usual truisms about how to invest are wrong, but in order to avoid becoming just a small fish in a big sea of investor creatures (some of them that eat small fish), one ofttimes needs to take a divergent path.

Here are some ideas I have identified that can lead you toward becoming a highly successful investor rather than just a typical one. At least several of the ideas begin by challenging customary thinking and the ways we often are typically inculcated to see things as investors. And, of course, the way we see things influences the way we act, and therefore, the results we get.

Be forewarned: Some of these ideas may ruffle the feathers of some readers. No one is saying you will necessary agree with each of these five ideas or that you will make money (or avoid losing it) in every instance by following them. But down through the years, what I like to think of as "being different" appears to have helped me innumerable times, and hopefully, have benefited a considerable number of my readers as well. So keep in mind that the whole purpose of reading an investment article (or really any article) should be to expose yourself to some different ideas, not just to merely echo agreement with things you already believe.

1. Some say: No matter how high the market goes, nor how volatile it becomes, stay the course. That is, stay fully invested with your previously arrived at allocation to stocks.

Their reason: You shouldn't try to guess the market's direction. No one has been consistently successful at doing that. You're better off just holding steady with what you've got; otherwise, you are "timing the market."

I disagree.

Well, it's true that no one has a crystal ball. So engaging in all that speculative thinking, and taking in all those talking heads' dialogues about the market's direction, is likely to be mostly a waste of time and energy. But does this mean there's no point in trying to make some intelligent decisions about your portfolio? I would say resoundingly no.

In spite of the day-to-day, even month-to-month volatility of the markets, there are some overriding principles in action that make the markets at least somewhat rational. Unfortunately, these principles are pretty hard to discern due to the constant churning, along with the seemingly uncountable ups and downs, when looking mainly from a short-term perspective. Add to that the constant media over-analysis of what are mostly non-meaningful market moves, and it becomes quite difficult for the investor to see the forest through the trees.

These relatively enduring principles can be sketched out as follows:

a. A given up or down trend will generally continue for long periods (usually years). An uptrend inspires confidence and thus tends to be self-perpetuating; a multi-month downtrend tends to trigger fear which typically begets more fear.

b. At some point, an uptrend becomes so exaggerated that it is unlikely to go on much further. Successful investors aren't usually crowd followers. When they have made a lot of money, at some point, they may decide to cash in some of their chips. Similarly, when actual circumstances change enough that they feel like they may be about to lose some of their prior gains, they act to prevent possible losses.

c. Likewise, when we have undergone a significant correction, or even when within the jaws of a bear market, some brave investors at least, see that things may have gone too far and view it as a buying opportunity.

As a result, the market eventually undergoes significant, often long-lasting changes of direction. By correctly recognizing these broad trends at work, an investor can profit by making appropriate portfolio adjustments. This is why merely "staying the course" may not always be the best course.

But don't get too distracted, as most people are, by short-term movements of the market. The way to make money is to recognize the truly long-term trends. For example, the rising market beginning in 2009 through the following 12 months or so, should have easily been recognized as such a trend; although it was never guaranteed to continue, it certainly appeared to some as highly likely to do so.

2. You do not lose money when the stock market drops, or, as clearly expressed by my wife on bad market days, "We lost a lot of money today, didn't we?" (Nor, incidentally, do you gain money when it rises). This only happens when you sell stocks after a fall. (Or, cash in after a rise.) The rest of the time, stock market drops or rises should really be perceived as relatively meaningless to your financial situation.

But if you want to do better than average, it will help a great deal to take a different perspective than expressed in the above notion. Once you realize that you haven't lost any money even after an extended drop, you should no longer fear a drop or become disheartened in the face of one. All this presumes, of course, that when you bought your stocks, you were fully prepared (and financially able) to hold your funds for years. Otherwise, you might indeed need to have that money, or be fearful enough that you feel compelled to sell at the lower price before enough time elapses to allow for a recovery.

And, rather than fearing a drop, you might work on reversing your thinking; you can actually "root" for one because in reality, one can substantially help to improve your eventual bottom line. A drop, especially one that puts the price back to where it was many months, or even in extreme cases, years ago, gives you the opportunity to add an investment essentially at a big discount to what many investors, including perhaps yourself, were willing to pay just recently.

3. It is probably an ingrained conviction among some investors, especially relatively aggressive ones, that if you want to do well, you should go light on bond funds or even avoid them altogether, and even more so during times when interest rates may be headed higher. Many of us might find some truth in this belief, but should we accept it at face value? Well, maybe. Or, maybe not.

If one adopts a shorter-term perspective, stocks, obviously, have been a much better place to be than bonds for some years now. But over the entire 15 year period between 1999 and now, featuring both stock bull and bear markets, someone who continuously owned a bond index fund has still earned somewhat better returns than someone who owned an S&P 500 stock index fund, the latter often touted as the best place for fund investors. (Source: Morningstar reported returns for the Vanguard 500 Index (VFINX) vs. those for the Vanguard Total Bond Market Fund (VBMFX). )

But taking this one step further, not all bond funds are created equal. Some of the best bond fund managers have done much better than owning a bond index fund, and therefore, topped the S&P index by a much greater amount over this period. (For example, average annualized 15 year returns for Pimco Total Return Institutional (PTTRX) currently (as of April 25) at 6.57%; those for Loomis Sayles Bond Retail (LSBRX) at 8.29%; compare to Vanguard 500 Index at 3.97%.)

But here's the primary thing that many of those who adhere to the above belief don't seem to be factoring in: One of the main advantages of owning one or more bond funds is not necessarily that you will get great returns. Rather, it gives you an alternative place to put money when the stock market looks vulnerable. And that alternative place will nearly always do better than cash, at least over a year or two time period.

Without bond funds, you may be tempted to put nearly all your assets in stocks, since being in cash is often a near sure guarantee of practically no return at all. And allocating too much into stocks can, at times, lead to big losses, as many who cashed out discovered in the dot-com bust as well as in the Great Recession.

Will you necessarily suffer in bond funds if interest rates go up, the latter being something that no one really can predict for sure if and when will happen? Not always, since some types of bonds can actually do OK in a somewhat rising rate environment, such as some corporate and high yield bonds. Thus, while nearly everyone has been anticipating a rise in rates over the next year or two, many bond funds have started out 2014 doing not only better than expected but better than the majority of stock funds. Thus, ugly ducklings in the eyes of many investors do not always turn out to be nearly as homely as they might appear.

4. Here's an idea that may surprise you: Reading newspapers, magazines, and web articles on investing (even this one), and following the ups and downs of the economy, world events, and the Federal Reserve Board will not in and of themselves make you a better investor. Rather, what makes you a better investor is your willingness to act on what you have learned.

Many investors follow the markets but tend to get bogged down when it comes to acting. They are either a) too busy, b) too uncertain that acting is the right thing to do right now and so they don't, or, c) convinced that by merely do nothing, akin to "passive management," everything will still likely turn out OK (or, even better than doing "something"). While doing nothing in response to market hissy fits is almost always the right thing to do, there are indeed legitimate times when action will be in the investor's best interest, as when stocks, or a certain category of stocks, seem highly likely to be over- or under-valued, or, when market conditions have changed so much as to clearly suggest a profitable change of emphasis will be rewarding.

Incidentally, many may also believe that the combined acts of following the market and then being inclined to put into action what you have learned pushes one toward becoming a "trader." One might tell oneself that ordinary folk should leave such actions to investment professionals, or otherwise, only to non-professionals who are likely paying far too much attention to their investments.

While I've never actually heard someone make the following statement, it's apparent that many people think that "there are too many other really important things, or more interesting things, I have to do than to be shuffling my investments." If so, perhaps they are making a big mistake in not allocating a little more time in their life to help ensure what will likely be a big determinant of their future financial health and wherewithal.

While this last point may be overstating how some investors may avoid acting merely because they don't want to think of themselves as going against the norm and engaging in such activity, there certainly does appear to be somewhat of a tendency in our culture to frown upon a lay person who is perceived as doing "too much" with their investments.

But how much is "too much," twice a year, five, ten times, ...? Mutual fund companies themselves even try to put limits on one's legitimate "trading" activity, or penalize you with charges or restrictions if you do. It's no wonder that many investors are going to be very hesitant to act even when they certainly have proper cause.

While buying and holding can be a successful strategy, investors who act when prices reach levels that seem way too high, or way too low, are often able to have a significant advantage over those who are unwilling or unable to act on such reasonable knowledge. And learning about, and acting on, significant market trends can be the mutual fund investor's surest path to profiting from the myriad of investment choices that are available.

So I recommend not being deterred. When you have good reason to believe a fund is going to do badly, or conversely, do well, act judiciously. While not all of your actions will always turn out to be successful, there is no reason that over time the majority of your actions will wind up either making you money, or saving some. And with the U.S. currently in a retirement crisis with not enough money being saved up by far to many people, such activity should not be viewed as something that ordinary people should pretty much shy away from.

This leads to my last potentially money-making idea.

5. Don't empower an advisor who charges you money to make all the decisions about your investments. In this case, this is a statement basically I agree with.

Why not do this? After all, you may think that you do not have enough knowledge to manage your own money, as opposed to an advisor, who should, at least theoretically (and likely does) have more knowledge then you.

The main reason is this: Unless that advisor is mainly putting you in index funds, the chances that she/he can do better than these index funds is perhaps somewhere in the 30-35% range at best. If s/he can't do better than the index funds, why should you pay for something you can get without paying for it? Just invest in some basic index funds yourself such as a "total" (U.S.) stock market index or total "world" (global) index, or, regarding bonds, invest in a "total" (U.S.) bond market index.

While being a do-it-yourself investor may not lead to "great" returns, by investing in the above types of index funds, you certainly can achieve the average return earned by the sum of all investors, which includes the clients of financial advisors.

But suppose the markets do badly? Wouldn't your advisor be able to take appropriate action to protect you? Once again, it is unlikely that most advisors can do the necessary things that will make you come out ahead of the average investor. If so, why not?

Advisors are just people, susceptible to the same emotions and thought patterns as anyone else. They may get too fearful once they see that the market has already gone down and sell some or all of your position. Or, they may become too exuberant during a bullish market and expose you to too much risk. And many advisors are just too busy to give your portfolio the special treatment it needs. Only you can do that for yourself.

The average person can learn enough over a period of time to manage their own investments as well or better than most advisors. But the biggest advantage a person can have over an advisor is that you can choose to make investments that have a minimal cost while an advisor, by definition, must make money beyond your otherwise possible low investment costs. And although there are certainly some conscientious advisors out there, since it's not his/her money that is being spend or invested, s/he isn't necessarily going to be as careful or cost-conscious as you might be.

Many advisor-chosen funds have fees, in addition to any charges you may pay directly to him/her, that are higher than necessary and that you yourself, if you did a little comparison shopping between funds, would not choose due to their being too expensive for what you're getting.


Postscript

Most of the above discussion deals with how investors customarily think about investing as aided by many of the beliefs about investing prevalent within our society. While most can still do adequately even when following the various widely written about, promoted, and accepted investing notions, there exists the possibility of doing better than average by thinking about some/all of the above issues differently.

Thus, one of the keys to doing well as an investor lies not so much in trying to outdo others by acquiring additional factual knowledge or hiring a professional overseer, but by recognizing how one's strongly held beliefs may in fact be limiting one's success.

Much of whether an investor a) does as well as the major stock averages, or nearly so (an achievement in itself), b) does even better, or, c) does more poorly (as repeated research suggests), is truly in his/her own hands. By examining, and, at times, shifting one's beliefs, one can often gain an important advantage when in comes to investing, and likely, other endeavors as well.

 


 

Tom Madell

Author: Tom Madell

Tom Madell, Ph.D.
Publisher
Mutual Fund Research Newsletter
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Mutual Fund Research Newsletter is a free newsletter which began publication in 1999. It has become one of the most popular mutual fund newsletters on the Internet, as shown on the Alexa.com "Top Sites" page for Mutual Funds News and Media Newsletter websites. Tom Madell, the Publisher, is a researcher and writer, as well as a long-term investor, whose investing articles have appeared on hundreds of websites, including the Wall Street Journal and USA Today, Morningstar, and in the international media.

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