At one time, usually only rich people played the stock market. As in any form of trade, a few got to smoke their cigars in the back of a limo, but many weren't so clever, or lucky.
Then came mutual funds. Originally, like stocks, they were just an obscure way to invest money, but as the numbers exploded (after slow growth from 1924 through 1981, there were 3,000 mutual funds by 1990 and around 8,300 as of December 2005), they became the stock market for the rest of us. And more and more seemed to hang on which fund had the "best" manager and the highest returns.
Enter the Sports Investor. The sports investor thinks he's a pretty swell guy. He's affluent but not rich, he may or may not have a broker, but he reads the Wall Street Journal, has subscriptions to several financial magazines, knows the latest buzz, and likes to do his own thing. Chances are, he's into owning the hottest funds and chances are, he's not doing so great.
There have always been people who think they can "play the market." But even the 24-hour-a-day hands-on professionals are less good at this than they want their clients to believe — even they have a tough time "beating the Street." Sports Investors, hopping in and out of mutual funds like kids in a sack race, are often unaware how much their "cutting edge knowledge" is costing them.
The long-term benefits of growth mutuals are an easy sell. The pitch often involves showing you a "mountain" chart that illustrates what has happened to typical investments over the past 70 years. That chart is a Himalaya of persuasion: for example the value of the Dow (an index of 30 key U.S. industrial stocks) is around forty times what it was at the height of the 1920s boom, and well over two hundred times what it was during the worst of the Great Depression. Small Cap stocks, especially in some areas, have grown in value much faster still. Surely you can't go wrong?
The problems with this fantasy are too numerous to list, but let's look at two. The first we've already mentioned: market timing is hard, even with highly-specialized knowledge, and it's even harder to be honest about how good you are at it. How many people are bragging today (at least to themselves) about a great return on a smart investment? Compare the number of people who are frankly admitting (at least to themselves) that their last "smart investment" flew through the floorboards like a steel bowling ball.
But there's worse. Because it turns out that even people who are good at picking investments often lose money because they are pickers instead of stickers. Think long and hard about this: On average, the S&P 500 grew at an average of nearly 18% a year from 1980 to 1998*. (If you think that's anything less than flat-out fabulous, go back to buying lottery tickets.) So, 18% (or a tad less) is how much your S&P 500 investment grows, in an average year, during this period. If your money is actually in the market.
Thing is, people can't always time the market without withdrawing money from the market to finance the next clever buy. And, because folks need to think and sleep, market timers usually leave their money sitting in cash for a day, or week, or month between transactions. No big deal? Surprisingly it turns out to be a Godzilla-sized deal.
Suppose your S&P nest egg happened to be taking a rest in the lounge chair (i.e., it was in cash, not stock) on just the best twenty trading days out of the 7,000 or so we're looking at. Suddenly your return is around 13% instead of around 18%. Missed the top forty trading days? You just sank below 10%. Over two decades, we're talking about a different way of life.
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