Many of you have expressed a couple of fears to me recently. Today I am going to answer them to the best of my ability.
Question: Is this terrible virus going to ruin the stock market?
Answer: No. Unless it turns into a global pandemic that leaves 1% of the surviving population fighting off zombies.
Some historical perspective:
- Polio reached its peak in 1949, the market was up 18% on the year.
- AIDS, 1983, market was up 22% on the year.
- SARS, 2003, market was up 26% on the year.
- Avian Flu, 2006, market was up 18% of the year.
- Swine Flu, 2009, market was up 36% on the year.
- MERS, 2013, market up 18% on the year.
- Ebola, 2014, market up 10% of the year.
- Zika, 2016, market up 17% on the year.
Horrible diseases have no history of destroying investment portfolios.
Question: Dave, the stock market has been going up for ten years. There is no way we can keep this going. A crash HAS to be coming.
Does it? I don’t have a crystal ball, but markets without a crash have lasted much longer than ten years in the past. 1943 through 1972 saw no major corrections. The same goes for 1977 through 1999 (minus a short-lived blip in 1987 that recovered by the end of the year).
Now that we have that out of the way…
Let’s talk about the investment industry. I’m talking about all those companies you see commercials for during football games: T Rowe Price, Franklin Templeton, Oppenheimer, Janus, Putnam and more. There are also smaller funds that specialize in real estate, precious metals, and anything else you could possibly imagine investing in.
This is why I get fired up…
As far as the mutual fund companies go, they employ a pretty nasty trick. I’ve seen it play out time and time again throughout my career. Most mutual fund companies make money through something called an “expense ratio.” It’s a fancy way of saying, “We get a share of your profits because we are so smart that you are going to make more money by investing with us.”
Why do I get mad?
Because, nobody is that smart.
Nobody can time the markets. Nobody can use fancy algorithms to make more money. It has been proven time and time and time again. But many of these funds love to claim that their investments have done better than everyone else’s.
They like to say meaningless things like, “We’ve created value using our bottom up approach which utilizes both technical analysis and sentiment to create a portfolio in which can create alpha and beta and blah blah blah.”
These companies make a TON of money. Some of them charge nearly 2% of the profits. If investors invest a billion dollars into their fund, that is 20 MILLION dollars in fees per year.
But it gets worse. How can a fund company brag about how their funds have outperformed everyone else’s? They kill the bad ones. What does that mean?
Let’s say T Rowe Price creates ABC mutual fund. Investors watch fancy commercials and throw millions of dollars at their feet. Sadly, ABC mutual fund does terribly. It badly under performs everyone else. The investors lose a ton of money. T Rowe Price, in order to keep its sterling record, kills the fund. It closes the fund and transfers client’s money into “similar” accounts. It’s like it never existed.
Because of this tactic, these companies have almost NO risk. If the funds do well, they brag about their brilliance. If the funds suck, they are swept under the rug. But either way, the fund company makes money. The fund company can’t lose. Consumers can certainly lose, but the Putnam’s of the world can’t. I guess that’s why their name is plastered over giant skyscrapers in Boston.
Another example. What about someone who puts a real estate investment together? Everything sounds great going in. You have the opportunity to invest in huge portfolios of properties that kick off interest and capital appreciation. I have no problem with these investments. Some of them are very successful.
But … the sponsoring company makes a ton of money, investors are excited at the prospects of making a killing. And then, just like every business, some of these investing firms are terribly mismanaged.
But does it matter to the guys at the top? They’ve already made their money. The CEO already owns their chalet in Vale. The investors are the ones who lose their money.
This gets me more and more outraged. Why does the consumer have to take all the risk? Why are there no repercussions for this crappy management? It is just how the financial machine works. And you wonder why Wall Street has such a bad reputation.
Now, don’t get me wrong. Clearly, I believe in the power of investing. I prefer low-cost providers that change very minimal fees like Vanguard and Fidelity. They allow you to diversify without using the same tricks referenced above.
And now you know.