There is a disappointing and sometimes
shocking story to tell about the financial services
industry. It may be even called the industry’s dark
secret. This secret was first revealed and published
on March 29, 1900 by Louis Bachelier, and was followed
up by hundreds of academic studies. Unfortunately,
few investors pay any attention to academics and
Nobel Laureates. This secret costs investors billions
of dollars, maybe even a trillion dollars each year.
It causes many investors to lose sleep at night
and be distracted from their work during the day.
It drains the investment portfolios and retirement
pension accounts of almost every worker in America.
The dark secret is that managers do not beat markets.
In fact, markets outperform investors by
a substantial margin over long periods of time.
This 12-step program demonstrates this point and
will show you how you can obtain your optimal rate
of return by matching your Risk Capacity™ to an
appropriate risk exposure. That risk exposure is
a portfolio of index funds that is periodically
rebalanced.
In 1985, I received a large sum of money due to
the sale of the company I co-founded. I never took
the time to study how the stock market worked. I
wasn’t fortunate enough to have read a little 85-page
book published that same year by Charles Ellis entitled,
Investment Policy. I was completely unaware that
since 1930, academic researchers had been applying
scientific and statistical analysis to large sets
of stock market data. Instead, I turned my newly
found fortune over to a major brokerage firm. This
particular firm had a stellar reputation with offices
in a huge skyscraper. How could I go wrong?
Twelve years later, I finally decided to try to
understand how my investments had performed compared
to an appropriate benchmark, a process first applied
by Alfred Cowles back in 1938. As I spent months
combing through book stores and the internet, the
knot in my stomach grew tighter. I finally started
asking the right questions about my risk exposure
and performance. I was distraught about what I discovered
and didn’t sleep well for several nights. My lack
of understanding of how markets worked cost me a
mind boggling amount of money. When comparing a
risk appropriate portfolio of index funds with what
I actually achieved in my own portfolio over the
previous seventeen years, I ended up with thirty
million dollars less. I repeat, thirty million dollars
less than a simple index fund portfolio. Did I have
to pay that much tuition to finally get my degree
from the University of Index Funds (UIF)?
I first wrote a twenty page letter to my broker
of twelve years and moved all of my assets into
Vanguard index funds. I continued my investigation
of indexing and was led to the discovery that there
was another firm that is more academically grounded
and highly rated than Vanguard.
This firm is Dimensional Fund Advisors (DFA). I
was so impressed with what DFA had created, that
I started a new business to educate and advise others
on ways to optimize market rates of returns. I developed
an extensive and interactive website to educate
investors. I also wanted to put the information
in print, so I wrote a book with input from a large number of talented
and creative people mentioned in the acknowledgments.
Following my epiphany, I spent
many weeks asking my friends what they knew about
the capital markets and how much tuition they paid
to UIF. The more I looked, the more astounded I
was at the dearth of relevant information and lack
of risk-adjusted performance achieved by almost
everybody I knew. One morning it occurred to me
that investors just follow their innate instincts
to trade and to be fooled by randomness. In essence,
they experience various levels of addictive behaviors
caused by the lure of striking it rich with their
hard earned money. The financial services industry
is also addicted to the massive profits it achieves
from their clients’ gambling. Therefore, they are
highly motivated to continue to keep their dark
secret locked up in the mathematical formulas of
the Journal of Finance or a university text book.
The secret is very safe there, because the overwhelming
majority of investors can’t decode Riskese™, the
language of risk. They prefer to believe in the
mystical powers of market beating gurus.
So how can investors break these destructive patterns
of investing? The same way thirty other addictions
are addressed - with a 12-step program. This 12-step
program, Active Investors Anonymous™, is the treatment
of choice for wayward investors. The program is
altered to more specifically address the investigation,
education, and implementation needed to cure the
self-destructive behavior of active investors.
My passion and mission is to clear the smoke and
mirrors that conceal the failure of active management
and lead investors to a highly efficient, tax-managed,
low-cost, and risk appropriate portfolio of index
funds.
