If you search “top winning gambling strategies,” you get over 29 million hits. You will get a list of possible winning gambling strategies, all with a high level of confidence, which makes winning in gambling sound like a certainty. The financial industry uses the same techniques. They bombard us with investments and trading strategies, and with courses and books that seem to make sure that you are the only winner.
Casinos are open 24/7. By letting gamblers play at all hours of the day and through the night, casinos increase their odds of winning. In the same way, online brokers today offer worldwide trading in currencies, stocks and commodities, trading happens for almost 24 hours each day. You could trade Japanese yen in the late evening, buy some European stocks in the morning, and end your day with some gold commodities trading, only to repeat the entire cycle the next day.
The Sweet Lies
As we’ve seen above, it is crucial to the Wall Street system that there remain money pouring in and enough stimuli for their clients. The gatekeepers of the finance industry would argue that all of this is essential to keep money flowing around the world and delivering capital to where it is needed. As industry insiders say, “You can pay us to decide how your money is used, because we know best!” For this to work, we need efficient propaganda with a mix of half-truths, lies, and a lot of complexity, the basis for all their sales pitches. What follows are the most common and widely promoted lies.
Lie 1: Investing means stock markets, now!
The most worrisome notion about modern investing today is the automatic association with stock markets and fund investment. When you ask a random person on the street about investing, they will come up with answers that likely involves stocks, funds, or Wall Street. The notion is that when you have cash, it needs to be invested in financial products promoted by Wall Street. A growing majority of retail investors insist that they need to put their money immediately “to work,” and it should work all the time. Somehow, the general public is convinced that investing equals Wall Street. From Wall Street’s perspective, it makes a lot of sense. An inactive person with a lot of cash outside the money game is the worst client; so, they tell you that holding cash is bad, and that investing means buying stocks, funds and promising financial products.
For the majority of human history, many people got wealthy—a few fabulously so—without stepping inside a stock exchange. Less than 70 years ago, today’s highly touted form of investing had no relevance to the general public. For many, financial market investing became mainstream because of Ronald Reagan's new economic policies. In industrialized countries such as Germany, it didn’t matter until the mid-90s, because it was the domain of a few enterprising individuals and wealthy family offices. Germans who didn’t invest in stocks and funds did very well for themselves. Yes, the general public has always purchased fixed income securities, short-term money papers or bank certificates, but that is nothing compared to the financial product variety we face today and the enormous outside pressure to play the game. Consider the case of Japan, one of the top five economies in the world with a strong middle class. After 1990, many of the Japanese completely lost their enthusiasm for stock and fund investing, as it marked their financial armageddon—Japan’s massive real estate and stock market bubble popped. Until fairly recently, the largest pension fund in the world, the Government Pension Investment Fund (GPIF) of Japan, with about $1.1 trillion assets under management, didn’t have a single stock position in its portfolio mix.
Only through massive market manipulation, at the highest governmental levels, has stock investing seen a somewhat lukewarm revival among Japanese individual investors. Today, economists estimate that the Japanese central bank, the Bank of Japan (BOJ), is the largest shareholder of Japan’s publicly listed companies through massive purchases in Japanese Exchange Traded Funds (ETF).28 In effect, Japan’s government and the BOJ are gamblers with a massive all-in bet to stimulate stock market investments among the Japanese retail clients. If the bet doesn’t work out, its whole population will pay the bill.
The truth is the general public does not need to participate in Wall Street’s games. Millions of Germans have done well for their retirement without ever having invested in stocks or funds. Generations of Japanese have done well for themselves and their retirement plans by just keeping their cash under their pillow or keeping it in gold and real estate. There are other ways to take care of your retirement needs that range from saving more to establishing small businesses or maintaining working opportunities beyond the set retirement age. Remember: no matter what the publicity machine says, you do not have to invest in stocks or funds to make money “work” for you.
Lie 2: Money Lies in Trends
Another way Wall Street tries to get people to commit their money is by identifying what they believe to be cast-iron trends, then monetizing those. It’s common knowledge that we are better off at investing in something that experiences growth and future potential. There are always a few trends that are more or less guaranteed to become reality. In investing parlance, they have a tailwind. For example:
People live longer.
There is an expansion of renewable energies.
Robotics and AI (artificial intelligence) will become more widespread.
Many books have been written on the topic of investing in future technologies, research, and science. Large venture capital funds have made it their specialty to fund future technologies and promising projects.
Unfortunately, most industries trends and visionary predictions have been a financial grave for many. There are neither protections for the capital invested nor indications of any types of stable returns that make their investment worthwhile. On the contrary, further funding is usually required, as the initial capital invested is frequently insufficient. The investor is usually presented with the classic investor's dilemma of having to throw good money after bad or risk losing the entire initial investment. This should not keep people away from opening their purses to these noble endeavors, but they should be clear that their money is considered a donation rather than a real investment for future wealth.
A good example of the perils of investing in fads and popular trends is the car and airline industry. How much money was lost financing all of those early car companies that don’t exist anymore? How much money was lost financing new airline companies at the beginning of the 20th century, and then a few decades later, restructuring a few remaining airline companies? The large majority of investors in both industries have very little to show, yet they were the trendiest investments of their time. Similar scenarios have occurred with other revolutionary technologies, such as the TV or dotcom companies. The majority of investors, particularly those who came a little late to the party, lost huge amounts of money, even though all of the experts’ forecasts came to fruition.
This doesn’t only apply to whole industries, but to financial products themselves, such as theme funds and exotic-sounding structured products. When BRIC funds (Brazil, Russia, India, & China) became mainstream among retail investors and everyone had to have one in their portfolios, the real winners were the first movers who invested early on at very favorable prices. By the time the masses invested, early investors were preparing themselves to cash out with very generous capital gains. Those a bit late to the party picked up the check. In 2015, the once iconic Goldman Sachs BRIC fund folded and merged with another Emerging Market Fund, due to several years of appalling performances. Guess who the losers were? As of the writing of this book, trendy investments themes include investing in VR (Virtual Reality) or AI (Artificial Intelligence) technology or single companies such as UBER, Snapchat or AirBnB. Though not publicly listed, these three companies have already reached jaw-dropping valuations that could be right out of a fairytale from the land of flying unicorns. Yes, a few investors will make lots of money—staggering amounts of money—but it won’t be you or the masses of naive followers. Trend and fashion investors would be well-advised to heed Peter Lynch’s observation: “
It’s a real tragedy when you buy a stock that’s overpriced, the company is a big success, and still you don’t make any money.”29
Lie 3: The Gospel of Diversification
To keep people invested at all times, though aware that nervous folks worry about price volatility and crashes, Wall Street has found the perfect solution: the gospel of diversification. The theory behind it is that when owning or allocating your cash to a set of asset classes—e.g. stock, bonds, and real estate—diversifying your holdings can protect you from the ups and downs of today’s erratic markets. The idea is that you can stay invested and tolerate the price volatility of individual asset classes while hoping to reap market returns. Of course, all fees are charged, whether they perform or not.
Another argument for extensive asset allocation is that if you own all possible assets spanning the entire globe, it will enable you to participate in any hot asset class. If Chinese stocks are hot, you will have some exposure; if oil or gold are hot, you will have some exposure. So, retail investors get to play the hot games of the big guys through diversification.
To make things even more surreal; you can diversify within asset classes. Professional advice is supposed to navigate the naïve investor through the minefields of asset class selection, but will also assist in selecting the best funds and managers. Professional advice, as a result, comes in two layers: on the top, clients need advice on selecting the hottest, trendiest asset class and the best fund managers within those classes. On the second level, clients have to pay managers for selecting the best investment in each asset class—that includes the growing number of index funds and ETFs. So, you pay advisors to select a team of fund managers and you pay fund managers to select the best securities. You could potentially add a financial planner, private banker, or tax consultant as the fees accumulate. It is a wonderful business model that generates continuous trading commissions and advisory fees in the name of risk diversification.
An average investor, who follows the standard advice today, will end up with at least three to five different funds or a fund of funds (funds that invest in several funds managed by other companies). It’s been estimated that an average retail investor with $50,000 to spare would end up with at least a 1,000 stocks in their portfolio and a similar or even larger amount of bonds. Congratulations! You have just won the prize for being the most diversified retail investor with guaranteed average performance... and front seats in the next financial crisis.
The bottom line is this: over-diversification has nothing to do with prudent investing or appropriate risk management. It neither guarantees long-term performance nor protects investors from market extreme variances such as those experienced during the subprime crises.
Diversification doesn’t protect you from overvalued purchases, regardless of the number of purchases. With any diversification, you can still very much overpay and lose substantial amounts of money. As Joe Ponzio, a former broker and trader, eloquently explained, “Extensive diversification, merely for the sake of diversification, is downright stupid.”30
To be clear, intelligent diversification makes sense. As a matter of a fact, you can diversify as much as you’d like, but the timing and reasoning for your diversification matter. If you bought all of the assets in the world with funds diversified into the hundreds at the peak of 2007, no diversification on this planet would have saved you from very sizeable losses. According to experts, it will be fine in the long run. Maybe, after ten years, you will have made up your losses, all the while being charged annual fees at all levels. Some hardened Japanese investors from the early 1990s are still hoping for a miraculous recovery of their well-diversified portfolios. They have been waiting for more than 20 years.
Lie 4: Wall Street Knows Best
Joe Ponzio states, “The brokerage firms and mutual funds that control Wall Street and the markets want you to believe that investing is too hard and too dangerous to do on your own. They also tell you that it’s not possible to beat the returns of the general stock market.”31 As contradictory as it may seem, this is where Wall Street steps in. They are the professionals. They know all the tips and tricks and urge you to hand your money over to them.
They forget to mention only one thing. Making side bets on gamblers or speculators is not investing, but gambling. Do they use their advantages for their clients or themselves?
If you hand over your money to some professional poker players in Las Vegas, there is a high chance that you’ll lose all of your money. Believe it or not, the same counts on Wall Street. We’ve seen that most professional Wall Street players speculate and trade, rather than invest long-term. And most of them stink at it. If you put your money with brokers and fund managers who trade, speculate, and make big bets on currencies, commodities, or stocks on your behalf, then it is not an investment, but a disguised form of gambling. It might go well, but it might also end up in a complete loss. The question is, where’s the line between a good money manager from a dud? To exacerbate things, finding one who is committed to invest, and not gambling, is time-consuming. Finding someone who is honest and takes care of your interests before their own is like finding the needle in a haystack. When people invested in Buffett’s early partnership in Omaha back in 1956, it was pure luck. For them, it was a simple bet on Warren Buffett the person, not the investment manager and capital allocator we know today. They were extremely lucky to have met him early on. There was not a single German, French, or Japanese investor in the early partnerships, and even some of Buffett’s own friends and acquaintances refused to invest.
And what about the thousands of fund failures and scams that we never hear of due to a phenomenon called survivor bias or survival bias? It describes “a logical error of concentrating on the people or things that “survived” some process and inadvertently overlooking those that did not because of their lack of visibility.” This can lead to false conclusions in several different ways. Today’s investors simply forget or ignore the countless cases where investors lost money trusting their friends and family. They invest in the unknown and new fund managers and funds. We give them the benefit of the doubt because they certainly had good intentions and moral principles. But for some reason, they fail because of bad timing, back luck, or incompetence, losing trillions worth of investors’ capital. We will never hear of them unless they are worthy of headline news.
In the face of these obvious risks and challenges for finding the right advisors and fund manager, wouldn’t it be easier, cheaper, and less risky to invest in your own business, local real estate or in the businesses well-known by you?
Lie 5: “Stable Income”
There is this strong desire among professional and amateur investors to have a fixed income like stable monthly investment returns. They dream of this perfect passive income comparable to monthly salaries, stock dividends, and stock market returns that secure their owners a safe and financially stable life. They are constantly working on finding the latest financially-engineered magical product that promises to deliver with disclaimers longer than the actual sales pamphlet.
Over the last 20 years, several investment products presented themselves to investors for their sophisticated risk-adjusted returns with almost predictable monthly returns. It usually sounds as if they have invented a secret formula for turning lead into gold. The patterns are always the same. For many years in a row, they present their investors with catchy monthly returns of 1 to 2% with almost zero mathematical risk of losing. These are truly wondrous products as long as they last, but they blow up and the money is lost. The last time it didn’t work out was after the subprime crisis, when a few German banks in Düsseldorf, and other naive clients around the world, went belly up. Apparently, they fell for these products but didn’t read or understand the disclaimer. If it sounds too good to be true, it usually is.
Key Takeaways
In the second part, we have seen the fundamental differences between purely taking chances, speculating, and investing. We have also seen the elements
that unify them all—the placement of money on an uncertain future. In many ways, participating in financial markets shows remarkable similarities to gambling at casinos. The fundamental similarities, the flow of money, the games we can play, the information flow, and the subtle appeal to human shortcomings are obvious.
We have seen how anyone can easily turn from an investor into a simple gambler succumbing to their own cognitive biases that could cost them dearly. The worst thing is that Wall Street is designed to stimulate those cognitive biases in each player. It is an entire industry of third parties, commercial banks, and investment banks feeding into a system of confusion and misinformation to stimulate the flow of money from A to B. While this happens, fees come their way. We have seen that there is another, more sinister reason, why Wall Street wants you to play and participate in the money game at all times.
In a casino, you have fixed rules and it is transparent what can and cannot be done. In theory, the same fundamental principle should apply to all financial institutions that promote themselves to serve their clients and uphold their fiduciary duties. But this is where the casino comparison stops and the second revenue model of Wall Street institutions comes into play. Wall Street operators have gotten used to playing with house money. They take a few bets for themselves and diversify their business model, which results in some dire consequences for the rest of the players.
In the third and final part of this book, I will present some key observations that show that playing the money game is a losing proposition right from the start for the average investor. Wall Street might not have the same edge that casinos enjoy, but they have always had the resourcefulness to create their own edge.
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