Tuesday, January 3, 2012

Who Are the Suckers in the Market?

Stableboy wrote a post called "Who's the Sucker in the Markets Today" and asked whether there are "enough of them to feed the hedge funds?" I have some ideas about who the suckers are:

  • Index investors (i.e. efficient market adherents). This is a free ridership problem. The philosophy of index investing is, "other people will make good decisions for me, for free." I also call it, "buying stocks at random." An enormous amount of capital is allocated this way. There is one trillion dollars just in index mutual funds, not counting ETFs or closet index funds. Notice, most of our good shorts have been owned by index funds and not active investors. I rarely find myself on the opposite side of a group of hedge funds; more likely to be retail investors and index funds.
  • Dip buyers. This is a type of behavior that evolved during the 1982-2000 bull market. The prime example is Bill Miller - have you heard his saying "lowest average cost wins"? People still use this technique even though it is a spectacular failure.
  • Obviously, people who buy worthless stocks. (My concept of the worthless stock inefficiency.)
  • Baby boomers, as a class, are suckers, with a free ridership problem just like the index fund investors. As William Bernstein put it, "it is simply not mathematically possible, let alone politically feasible, to expect each worker to support 0.67 retirees, no matter how many coconuts, dollar bills, stock certificates, or Krugerrands they save up in the meantime." Thus, we have the aging population and therefore falling demand for what will be a great part of my lifetime. Which brings me to my next point:
Remember my concept of investor genotypes in an investing ecosystem? During the bull market (1982-2000) within a bull market (1932-2000), any style that stopped to consider the possibility of a bear market would have been maladaptive. If you think about it in terms of expected value, for any value of caution regarding a bear market, such a framework would only have lowered expected value and could only have been maladaptive. As a result, the "cautious genotype" has largely been purged from investing.

Stableboy quotes an author named Steven Crist, who was the publisher of the Daily Racing Form. I ordered two of his books: The Horse Traders and Betting on Myself: Adventures of a Horseplayer and Publisher.

1 comment:

eahilf said...

Dip buyers.

For people who know how to set stops -- in case they don't get it exactly right -- dip-buying has been an enormously successful strategy for almost 3 years now.

It's all about good risk and capital management. Trading discipline. Looking at a chart or two, pausing when things don't seem to be going as expected/as they have been.

Simple as that.