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DrGoldin (99.10)

You vs. the Big Guys: How Can You Compete?



March 06, 2013 – Comments (4) | RELATED TICKERS: HLF

I'm convinced that far too few Americans invest in the stock market, and one reason seems to be the widespread sense that the game is rigged--that it's impossible to compete with the pros, who just eat ordinary investors for breakfast.  It is true that pros have big advantages over ordinary investors like you and me.  They have greater resources and better connections.  (Note that I didn't say better training or more intelligence; there are many bloggers and CAPS players who display superb domain expertise.)

The biggest of them have whole teams of researchers, access to proprietary algorithms, etc.  For example, when Bill Ackman of Pershing Square Capital Management launched his highly publicized short of the company Herbalife, he relied on the year-long research of an analyst in his company named Shane Dinneen.  Ordinary investors don't enjoy the services of a highly trained professional like Shane Dinneen.  Pros have infinitely better connections, too.  They have dinner with all kinds of fancy people and get information before the rest of the world.  I'm not necessarily alleging insider trading; I'm just saying that they hear more and know more than ordinary investors, and that information can be very valuable.

So how can you possibly compete from your desktop at home?  Ordinary investors have one big advantage over pros that I don't think they always appreciate: they're not beholden to clients.  If there's one recurring bad habit that I notice among ordinary investors, it's comparing their returns to the market averages.  Why should you care whether you beat the market?  If the market goes up 20% in one year and your return was just 19%, wouldn't you still be happy?  If the market goes down 10% in one year and your return was -9%, wouldn't you still be disappointed?  Comparing returns to the market makes sense only when you're evaluating the pros.  If a hedge-fund manager is collecting two-and-twenty, investors naturally want to see whether he has been beating the market handily and consistently, because otherwise they'd be well advised to save their money and just invest in an index fund instead.  But unless you're collecting fees from clients (in which case you're not reading my blog), your performance relative to the market is a statistic that doesn't do much for you--except possibly induce anxiety in the case of underperformance, and overconfidence in the case of outperformance.

Why is this such a big advantage?  Because you're not obliged to chase.  I suspect that most pros were prepared when the market lurched forward in 2013 (after all, throughout December, the best ones had been advising anyone who cared to listen that it made sense to buy on dips), but I'm sure that some of them were not.  Presto, within a week, the market was up over 4% (SPX at 1402 at the open on December 31, and 1466 at the open on January 7), and suddenly they had to chase in order to justify their lofty fees.  That can lead to rash decisions, to paying more than you should.  I wouldn't put it past some of them to go on TV and present a big scary bearish case just in order to slow down the markets so that they'd have a chance to get in too.  (Not naming names.  Just saying.)

You win by not competing with the pros.  It's usually not a good idea to bet against them, because, again, they have all those resources and connections at their disposal.  A better approach is to try to get ideas from them.  By studying their positions (for example, by sifting through their 13F's), you can infer a great deal about what they're thinking.  But don't worry about beating them; just do your best to profit alongside them.  There's plenty of room at the table.

And then you can always take solace in the fact that even the most respected managers don't always beat the market.  The great David Einhorn of Greenlight Capital trailed the S&P by a solid 8.3 percentage points last year!

4 Comments – Post Your Own

#1) On March 06, 2013 at 11:05 AM, Option1307 (30.66) wrote:

Good post, far too many people ignore the advantages that individual investors have.

Ordinary investors have one big advantage over pros that I don't think they always appreciate: they're not beholden to clients...

Because you're not obliged to chase...

I think this is spot on and I completely agree 100%. We as individual investors don't have to put up good quarterly numbers etc. and this is a huge advantage. We can hold a losing/mediocre position until our thesis plays out without worrying about our shareholders getting mad. 

Fools definitely underestimate how important and advantageous this is.




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#2) On March 06, 2013 at 11:49 AM, 2trpop (87.64) wrote:

One way you can compete with them is not give them the first 1.5% or so off the top, and then not give them a pile of commisions each year. 

Each investor has to determine what is the best path for them to increase their nest egg.  I was a growth investor for 10 years or so and realized I was pretty mediocre at it (but I did lear a few things).  I tried my hand paper-trading with charts and was no better there ( but I did learn a few things that I still use today).

I have a core of dividend growth stocks which I have held for 4-5 years now and have no plans to sell.  Transaction costs are practically nil, I accumulate more shares without transactions costs, my cost basis is steadily dropping, and my income is steadily increasing. I sleep like a rock at night knowing my money is working for me instead of paying someone else 1.5% of my money to put me in the middle of the herd with everyone else. 

Given my available time and talents, it is much easier and reliable for me to identify good investments in these types of stocks, correctly value them, and keep up with them. 

I realize this far into the game (I am 43 now), that the advice to take higher risk when you are younger (you have more time to recover?!?!!) is piss-poor advice for most.   The large majority would be better off building positions in dividend growth stalwarts and then taking a few shots around the edges once they have a solid investment base and more investing exerience.

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#3) On March 06, 2013 at 3:23 PM, DrGoldin (99.10) wrote:

@2trpop: I totally agree with your comment about the chestnut that it's better to take on more risk when you are younger.  In fact, I wish I hadn't listened to it.  Because of the miracle of compounding, it's better to build positions in solid dividend payers--exactly as you state.  Now and then I'll speculate a little bit, but for the positions that really matter, I try to go for companies that are attractively valued and consistently generate cash.  I think that's a sound strategy at any age.

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#4) On April 05, 2013 at 7:14 AM, AnsgarJohn (97.93) wrote:

Shouldn't you track the intrinsic value of your portfolio? A bit like Berkshire does with posting book value vs S&P 500 instead of BRK.A share price?


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