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Stock
pickers are exactly what their name implies - active investors who pick
stocks or even mutual funds based on perceived mismatches between the
current market prices and their supposed true values. This is a major
problem. In this random and efficient market, there are no mismatches
between the current market prices and their true value. Stock pickers
listen to their feelings and instincts when choosing which stocks
to pick. This Step reveals a study that determined the chances of an active manager
beating the appropriate index are just one in thirty-six, the same long shot
as throwing snake eyes at the craps table! In fact, less than three percent of
managers even beat their proper benchmark. Unlike index investors,
active investors who try to pick winning stocks are little more than gamblers who
rely on raw emotion and their imagined ability to predict tomorrow's news.
As Nobel Laureate Bill Sharpe asks, "why pay people to gamble with
your money?" When investors pay high loads, commissions or fees to
stock pickers, it may be more appropriate to refer to them as pocket pickers.
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it turns out for all practical purposes there is no such thing
as stock picking skill. It's human nature to find patterns where
there are none and to find skill where luck is a more likely
explanation (particularly if you're the lucky [mutual fund]
manager)." Mutual fund manager performance does not persist
and the return of stock picking is zero." We are looking
at the proverbial bunch of chimpanzees throwing darts at the
stock page. Their "success" or "failure"
is a purely random affair
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William
Bernstein, The Intelligent Asset Allocator |
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If there's 10,000 people looking at the stocks and trying to
pick winners, one in 10,000 is going to score, by chance alone,
a great coup, and that's all that's going on. It's a game, it's
a chance operation, and people think they are doing something
purposeful... but they're really not. " |
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Merton
Miller, Nobel Laureate and Professor of Economics, Univ.
of Chicago, Transcript of the PBS Nova Special,"The Trillion
Dollar Bet" |
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Empirical evidence provides no support for the claim that active
management of small-cap portfolios is more fruitful than it
is for large-cap portfolios. "
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The economists arrived at a devastating conclusion: it seemed
just as plausible to attribute the success of top traders to
sheer luck, rather than skill. "
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Transcript
of the PBS Nova Special, "The Trillion Dollar Bet" |
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Not surprisingly, the efficient market hypothesis does not exactly
arouse enthusiasm in the community of professional portfolio
managers. It implies that a great deal of the activity of portfolio
managers - the search for undervalued securities - is at best
wasted effort, and quite probably harmful to clients because
it costs money and leads to imperfectly diversified portfolios.
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Zvi
Bodie, Alex Kane, Alan J. Marcus, Investments, p. 355 |
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After taking risk into account, do more managers than you'd
see by chance outperform with persistence? Virtually every economist
who studied this question answers with a resounding "no." Mike
Jensen in the Sixties and Mark
Carhart in the Nineties both conducted exhaustive studies
of professional investors. They each conclude that in general
a manager's fee, and not his skill, plays the biggest role in
performance." [the higher the fee, the lower the performance
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Eugene Fama, Jr. |
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I have been a stockbroker for 5 years and have made people
money, but I always lose it in the end.
I have taken huge risks with my clients. I have lost millions, but I am tired
of looking for new clients. " |
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Very little evidence [was found] that any individual [mutual]
fund was able to do significantly better than that which we
expected from mere random chance. " |
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Michael Jensen, "The Performance of [115 US Equity] Mutual
Funds in the Period 1945-1964", Journal of Finance, May
1968 |
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It's like giving up a belief in Santa Claus. Even though you
know Santa Claus doesn't exist, you kind of cling to that belief.
I'm not saying that this is a scam. They generally believe they
can do it. The evidence is, however, that they can't. "
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Professor
Burton Malkiel: - ABC News Program: 20/20,
November, 1992 |
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The only way to "beat an index" is to invest in something
other than the index. Why would you, when the only source of
long-term risk and return data IS the index? Since you can't
beat the index, be the index." |
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Mark
Hebner, Founder, Index Funds Advisors, Inc. |
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The implication [of the Efficient Market Hypothesis] for the
investor is that it is almost impossible to "beat the market.
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12th
Grade Economics Text Book, Economics, (even our kids
are learning this) |
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Investment managers sell for the price of a Picasso [what] routinely
turns out to be paint-by-number sofa art. "
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Patricia
C. Dunn, CEO, Barclays Global Advisors (World's largest money
management firm, approx $1 trillion of assets under management,
approx 80% indexed) |
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