Charley Ellis, one of the members of our esteemed Investment Committee here at Rebalance, once explained that beating the market used to be easy — so easy that anybody paying attention could probably do it.
It truly was a “stock picker’s market.”
He told Rebalance Managing Director Scott Puritz that, back in the 1960s, only big insurance companies and institutions traded much at all.
Retail investors were rare and apparently they weren’t very good at it.
“The mistakes were made by individuals and they would last for months. I remember once watching DuPont drop 50% in price for reasons that were clearly predictable,” Ellis said.
“It was shooting fish in a barrel, really easy,” he continued. “Now you can only buy from or sell to other professionals.
“Secondly, they all have access to the same information because everybody has the Internet and that means worldwide information is yours instantaneously all of the time.”
That final point is exactly why index investing has become such powerful force for good in the retail investing market. In a world of instant information, the edge that Ellis mentions — the big mistake nobody notices for months — has virtually disappeared.
As I explain this week in MarketWatch, the data against so-called active trading is compelling.
The latest research from Morningstar shows that just one in three active mutual fund managers can claim to have beaten the market in the past 12 months.
Which means, of course, that two-thirds of them did not.
While some managers appear to have found a way in the very short run, there’s no reason to believe that you can pick the one manager in three who can — or that the same manager will repeat his or her performance in the next 12 months.
Rather, it’s usually the case that they don’t repeat. Because investments revert to their mean eventually, just about every style that finds an edge in the short run gives up that advantage and then some later on.
‘Would you like to play a game?’
In the early 1980s, the actor Matthew Broderick plays a young hacker who accidently starts World War III by challenging a Pentagon computer to a game of “global thermonuclear war.” The movie was called “WarGames.”
The kid thinks he’s playing a simulation. Meanwhile, generals are running around the halls of nation’s deepest bunkers thinking a nuclear attack has begun.
Spoiler alert: The world doesn’t end. By the end, the hacker convinces the computer to stand down by running every conceivable outcome of a global nuclear war.
Realizing they all end in destruction, the machine declares the contest “a strange game” in which “the only winning move is not to play.”
Much the same could be said of Wall Street these days. We’ve come a long way from 1960s inefficiencies and even Broderick has gone gray.
When it comes to winning as an investor, there is no stock picker’s market. The only way to way is not to play at all, and just own the index.
