Real Smart Money


Photo Courtesy of Christoph

Photo Courtesy of Christoph

Like Rodney Dangerfield retail investors get no respect. Often referred to by investment professionals as ‘punters’, ‘weak hands’, and ‘dumb money’, it turns out that retail investors are not so dumb, weak or punty. In fact, a new study shows we’re actually pretty smart, or at least smarter than Wall Street gives us credit for.

Investment strategists believe that retail investors, (that’s you and me Jack), are prone to a buffet of behavioural and cognitive biases that make us poor investors. We suffer from endowment bias, believing that what we own is more valuable than it actually is; and regret aversion bias, where we don’t make a trade because we’re afraid to make a bad choice, and a baker’s dozen more big, bad biases.

Thing is, portfolio managers are people too and they fall prey to the same biases.

But we’re not exactly running head-to-head. The study from the Federal Reserve shows that retail investors are better at spotting the onset of recessions compared to professionals, who only twig on at the tail end. This makes sense when you think that, for an average person, having an accurate read on economic trends can make the difference between a comfortable retirement of charity and golf, or working as a Wal-Mart greeter into your 80s.

By convincing regular folk that they don’t have the skills to successfully invest their own money, the investment industry can charge hefty management fees and shroud their work in tangle of jargon and metrics of questionable relevance. Over time, those fees really add up. Just think, if you have a million-dollar portfolio and you pay 2% a year to have it professionally managed, over the course of a 25-year period you’ve just given away over a million dollars in fees, assuming a 5% return. That’s some big ass opportunity cost.

Even a superstar investor like Warren Buffett has said that when the time comes to toss his mortal coil he wants his wife to invest the residue of his estate in low-cost index and money market funds. If anyone does, Buffett knows how hard it is to beat the market, particularly today when so much investment information is readily available thus making hidden gems that much harder to find.

This isn’t a tirade against those portfolio managers who work hard to add alpha (jargon alert!) to their clients’ portfolios. It’s a reminder that we’re not as dumb as all that.

Or, at least we’re just as dumb as everyone else.

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