In geek speak, the term “noise” is any disturbance that interferes with or prevents reception of a signal, like the static on your cell phone. In the financial world, the intended signal is trying to tell us how to best accumulate wealth, and the interference is 95% of what you hear from the media. Forbes Magazine’s Mutual Fund Honor Roll? Well-packaged noise. Jim Cramer of Mad Money? Annoying noise. This is according to Chapter 18 of The Bogleheads Guide to Investing.
I think that there is much truth to this assertion. In essence, anything that attempts to “beat the market” is saying this:
Tons of closely-scrutinized academic research of the past 80 years has shown that the vast majority of mutual fund managers and individual investors have underperformed index funds. Despite such overwhelming odds, here is something that we think might just do the trick…
Now, why would they do this?
One topic brought up is the motives of the source. Jim Cramer would not have a TV show if he didn’t make 2-sentence summaries of every stock out there. Forbes magazine would never run an article showing that research had found if you actually bought all their Honor Roll funds from 1974 to 1990, you would have underperformed their corresponding markets and index funds. Not beat it, not matched it, but lagged it. They’d have to switch to only touting index funds. If they did that, what would happen to all those whole-page advertisements by brokerage firms, mutual fund companies, and stock-picking newsletters? Gasp!
Another consideration is you. Let’s face it, sexy titles like “Buy this and double your money” sell books and magazines. In other words it’s financial porn! And just like porn is scripted, these magazines articles are just like the Mad Libs we used to fill out in grade school, as shown in my post Anatomy of a Personal Finance Magazine Article.
Conclusion
Anyhow, I pretty much agree with this chapter and I think it lays it out reasonably well. I would add that another key to tuning out this noise is to do your investing homework in order to be confident in your beliefs.
I personally think that beating the market is possible, just unlikely, especially over the long run and taking into account commissions and taxes. Although I don’t try at all right now, if I do try to actively invest later on, it will only be with a very small (less than 5%) portion of my overall portfolio. It will also be done with the full knowledge that I am trying to overcome very significant odds in doing so. The remaining 95-100% of my investment money will stay in low-cost index funds.
This chapter review is part of the Bogleheads October Project, which will include a review of every chapter in this book. I will also be posting my own review after this project is over, and giving away a free copy here.
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I think the key to all of your feedback here is that you should do your ?homework.? Listening to hot stock tips or hyped-up advice doesn?t always cut it. And Cramer really is annoying. But, I would just add two other comments. As far as the feedback you give for Forbes and those other financial magazines, the same has to go to Morningstar and their ratings of mutual funds. Following their advice based on star rankings is the same as listening to a hot stock tip. Mutual funds don?t always hold a 4 or 5 star ranking. And sometimes, mutual funds with two star rankings are actually pretty good long-term investments. So, context and homework counts. Some mutual funds may be downgraded only because of being in the context of a temporary correction. My second comment is actually something that all of these magazines like to say ? have a diversified portfolio or don?t put all you eggs in one basket. This has worked for me over the years and people at Enron or Worldcom had to learn this the hard way. I look forward to more of your chapter reviews of Bogleheads.
Glad to hear your sticking mostly with index funds. I’ve also read this book and thought it was pretty good.
Agree with all above, except I actually find Cramer to be entertaining.
He’s a riot and it’s fun to watch someone make calls on so many stocks. But I’d never actually buy one of his stock picks based on it getting the “bull” on his show, no more than I’d bet on a football game based on a particular ESPN anchor’s predictions. It’s also fun to check out all the sites that diss Cramer – like the one that compares his picks to a monkey’s!
add search box 😀
I would really like some advice from all you smart bloggers and readers . . .
I’m finally ready to put at least $35k into funds as a longish term investment. I was saving this for a home, but I no longer plan (or need) to buy anytime soon. I max out my roth and 401k, but I don’t hold any other investments.
Sooooo, the market is really high now. If I buy now, aren’t I buying high? There’s so much pessimism out there, too, regarding the economy and all that, but that’s just “noise,” isn’t it? Or, are we really due for a correction of some sort?
Part of me is thinking about waiting until January just to avoid having to deal with the tax implications of these taxable funds until 2008. Yeah, I don’t have an accountant, and I’m lazy & cheap like that.
And, part of me is thinking that I should just buy today.
What do you guys think?
Michelle: If you plan on investing and worry that market is going to go down, then dollar cost average or value average over the span of 1 year or more. That way, you don’t have to worry about the short term fluctuations.
First, decide your risk tolerance and set up a good asset allocation and stick to it. Stay diversified through low cost index funds or individual stocks if you want to actively invest your money.
No one knows if we’re due for a correction or not. Anyone telling you otherwise is probably just stating their opinion. Their opinion is as good as anyone elses.
Regarding research – I’m currently reading Index Funds: The 12-Step Program for Active Investors
. I haven’t finished it yet, but it basically shoots down every type of active investing one by one with cites of multiple research findings. Very useful for controlling any urges I might have to stock-pick. 🙂
I literally can’t watch more than 30 seconds of Cramer at a time. I only flip to CNBC to watch On The Money occasionally for the financial porn.
Michele – what Loi said. Yes, all the pessimism is noise. Taxes shouldn’t be too bad, easily handled by TurboTax et al. To reduce risk, dollar cost average. What’s “longish?”
Hi Loi and Jonathan, thanks so much for sharing with me! “Longish” means for the seeable future. I have no need for the money now that I’m not planning to buy a house anytime soon (I’m living with my long-term boyfriend in the house he owns and loves).
So far, dollar cost averaging sounds like the right strategy. Of course, the funds I want have 10k minimums, so I guess I’ll pick one, invest
11k (to avoid dipping below 10k), and wait another couple of months to repeat with another fund. Both are index funds. OK, so it only took me 15 years to “get it” about index funds – but better late then never, right??
Still think this is the right way to go??
Which mutual fund company are you going with? Vanguard charges a 10$ fee per year for index funds if you have less than $10,000 invested with them. That fee is not that significant if you only have only a few fund, so is probably okay to invest with less than $10,000 if you wish.
What is your target asset allocation?
Another suggestion would to get a life cycle fund such as Target Retirement 2035(VTTHX) that holds 5 different index funds. The minimums on these funds are $3,000 instead of $10,000 for their individual index funds, so that you can dollar cost average or value average more effectively.
I subscribe to a number of finance magazines.
I’m amazed by the number of speculative articles or beat the market articles they actually have.
It’s quite tedious once you decide that market timing is not effective in the long run.
Regards,
makingourway
Jonathan,
Thanks for giving this subject so much attention! You are absolutely right that Fortune or any other “finance” magazine will not sell many issues if all they said was buy index funds. In fact, I am planning to start a website to increase awareness about this for more and more people. It’s also surprising that many people know this and still subscribe to many finance magazines (I’m not picking on “makingourway”). In the process, they forget that their return on investment diminishes every time they spend some money on any of these magazines. I think what I will do is select stock pickers from respected news organizations and their respective “buy” suggestions and prove that people would have been much better off with either S&P 500 or that the returns were not comparable when you throw the associated risk in the picture. So many of these stock columnists brazenly disregard the risk component and how it might affect a person’s overall portfolio, that it is time someone put a stop to this.
Your suggestions are obviously welcome..