Smash Those Crystal Balls...

Written by Jimmy Mengel
Posted January 4, 2017 at 2:54PM

"He who lives by the crystal ball soon learns to eat ground glass."

--Edgar R. Fiedler

I hope you are all rested up and ready to roll…

Now that the champagne bottles have been emptied, the Christmas trees have been dismantled, and our New Years' resolutions have only just started to be ignored, it’s time to get back down to business.

Most of the columns you’ll read this week will be all about predictions. Wise analysts everywhere are going to tell you exactly what they see in their crystal balls...

Which stocks will boom? Which stocks will bust?

Which sectors will explode? Which sectors will implode?

What will the Fed do? What will Trump do?

And most importantly, what should you do?

I could keep going on and on, but before I do, let me tell you one thing: I HATE predictions. I find them to be the last vestige of scoundrels and charlatans…

As someone less elegant than I once said, “Opinions are like assholes — everybody has one but they think each others stink.”

But, as someone far smarter than I once said, "Forecasting is the art of saying what will happen, and then explaining why it didn't."

I trust that most of the predictions for 2017 will fall into this category.

That’s why I start every year by reminding myself of what really works. I ask myself three questions:

  • Which stocks have returned the most over time?
  • Should I even bother trying to beat the market?

While I’m on a quote binge, let’s set this column up with yet another:

"The best qualification of a prophet is to have a good memory. "

-- George Savile, Marquis of Halifax

If you study the past, you are far more prepared to "predict" the future. That being said, let’s dive into what actually works for investors, and where we can look for big gains in the coming year... not based on soothsayers, analysts, and talking heads, but on cold, hard facts.

Here are three ways to totally prepare yourself, not only for 2017, but for the rest of your investing career...

Beating the Market

I recently revisited one of the all-time greatest investment books ever: A Random Walk Down Wall Street by Burton Malkiel. The investment tome has set the standard for sober, smart investing in any market. The entire premise is based on what social scientists call the “random walk theory”...

The theory is essentially this: You leave a drunk in the middle of a field at midnight, then you try to predict where you should look for him the next day. Being that he was drunk, he wouldn't be acting in a logical manner.

In fact, it would be almost impossible to predict where the drunk ended up by the time morning rolled around. The same could be said about the stock market. So where do you look for the drunk? And where in the world do you place the stock market?

Here's how the researchers in the first popular examination of this theory in the journal Nature look at it. "In open country, the most probable place to find a drunken man who is at all capable of keeping on his feet is somewhere near his starting point!"

So, the best place to start is looking at the place you left him. That certainly makes sense. Here's how Malkiel described how to time stocks:

If information arises about a particular company or about an economy, that information gets reflected in market prices without delay... You won't have time to read the news and get in. The market is very efficient at digesting news.
Now, that doesn't mean that market prices are always correct. In fact, they're far from perfect. But the point is, it's very efficient at reflecting news, and if they're incorrect no one knows for sure whether they're high or low.
Therefore simply buying a portfolio of stocks, given the tableau of market prices that you have at any point in time, is likely to give you a better performance than trying to go and pick stocks and buying one stock and selling another.

While it seems obvious, it is something that 90% of traders have serious trouble learning. We often assume that a stock that has been going up will continue to do so. We see a stock that just tanked as a sell-off loser. We try to look so far into the future despite the fact that the fundamentals will radically change. Or we invent huge fish tales in our heads that have no basis in reality.

The idea here is the market is an irrational beast, a drunken lunatic, and a schizophrenic monster all rolled up into one. It needs to be treated with patience and care.

There is one easy way to tame the beast and protect your money...

Buy (and hold) an Index Fund

Index ETFs are basically a tracking device for the drunken market. They just follow it around everywhere like a bloodhound. They are also easy, they're cheap, and they're diversified.

Best of all, they actually beat the returns of most money managers and financial advisors. While these guys are moving around stocks each and every day, a trusty market index is faithfully chugging away, making you easy money while the “professionals” spin their wheels trying to juggle hundreds of stocks.

And while they are juggling, it is costing you a fortune. If you have a financial advisor, they get paid each time they buy a stock. So riding a consistent portfolio doesn't make them any money. All told, the average American spends around $150k over a lifetime on these types of fees. While they are just charging you to move paper around, they aren't even bringing home the bacon. In fact, over the past five years, two out of three actively managed mutual funds failed to beat the S&P 1500 total stock market index.

Vanguard S&P 500 (NYSE: VOO)

This was the first and still the most solid of the market tracked ETFs.

It has returned 11.67% over the past year, 74.69% over the past 5 years, and 90.34% over the last 10.

Those are incredible returns, with about as little risk as you could ever ask for.

Here's the rundown on the Vanguard S&P 500 (NYSE: VOO):

  • Invests in stocks in the S&P 500 Index, representing 500 of the largest U.S. companies.
  • Goal is to closely track the index’s return, which is considered a gauge of overall U.S. stock returns.
     
  • Offers high potential for investment growth; share value rises and falls more sharply than that of
    funds holding bonds.
  • More appropriate for long-term goals where your money’s growth is essential.

Plus, the expense ratio is a measly 0.05%. This is 95% lower than the average expense ratio of funds with similar holdings and infinitesimal compared to what money managers would charge you for doing the exact same thing.

So, if you want a crystal ball that acts in real time, Vanguard S&P 500 (NYSE: VOO) is your best bet. It works on the Occam's Razor theory: "The simplest explanation for some phenomenon is more likely to be accurate than more complicated explanations."

I like to keep things simple. Next week, I'll cover the next two steps for a simple, stress-free investing portfolio. Until then...

Godspeed,
jimmy-mengel-signature-fixed

Jimmy Mengel

follow basic @mengeled on Twitter

Jimmy is a managing editor for Outsider Club and the investment director of the personal finance advisory, The Crow's Nest, and cannabis stocks advisory, The Marijuana Manifesto. You may also know him as the architect behind the wildly popular finance and investing website Wealth Wire, where he's brought readers the stories behind the mainstream financial news each and every day. For more on Jimmy, check out his editor's page.

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