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Devil’s Advocate: Don’t Invest In The Stock Market

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This is a Devil's Advocate post.

Today’s Devil’s Advocate post is going to hit at the very heart of the financial sector. The stock market is one of the cornerstones of the American economy and one that has brought riches, big and small, to many an investors. However, many fail to realize that it’s a zero sum game. For every one of those rags to riches stories about a kid who took $1,000 and turned it into a million, there are many many more stories about a single mother of four losing it all (yes, I’ve chosen extreme examples for both). So all those awesome stories you hear, that’s only half of the equation!

Now that you’re aware of the stock market sob stories (no one really likes to talk about those), there are plenty of other reasons why the stock market is probably not the place for you to seek your riches. The dot com boom gave birth to many a day trader and the dot com bust ended the lives of many a day trader. So, here’s why you shouldn’t invest in the stock market.

Historical Returns are Meaningless

The Roman Empire had hundreds of years of prosperity prior to it’s decline and eventual fall in 476 AD, you think shareholders knew? (excuse the surprise mixed up metaphor) While diversification often helps prevent this sort of calamity, there’s is never any way for someone to guarantee events into the future. Stock market pundits can claim that the S&P 500 has historically return low double digits and that your money is well placed in those areas, they never seem to be able to predict when the stock market will take a bloodbath on a Black [insert weekday here]. If they could, they’d be in the basement of Lehman or Goldman Sachs (Goldman may actually have psychics working for them, they did make a fortune by betting against subprime).

All the models n the world also couldn’t have predicted external forces acting on the stock market. Could you have predicted 9/11? (though if you were to look at the futures trading leading up to 9/11, you would’ve felt as though someone knew what was coming)

You’re Investing Emotion, Not Fundamentals

Let’s depart from the scare tactics and talk about more grounded reasons you should avoid the market. Check out Under Armour’s stock (UA), it’s fallen nearly 18% in three months. See that massive chasm in mid-January? At that time, half the value of the stock had evaporated over the course of the trailing 90 days and the only attributable “news” was that the founder was selling a lot of shares back in November. Corporate insider selling can be a telling sign but fifty percent over three months? That’s emotion. (Subsequent downgrades didn’t help the matter) Oh, and since that chasm, 36% increase (a Q4 income report that beat estimates did help). That’s emotion.

Focus On Something Else

Let’s be honest, you can’t pore over financial statements and do any true due diligence. In fact, you probably don’t have the time or the inclination to even read the analyst reports and the charts they produce. You might flip through them to get a feel, you might try to force yourself to read them to assure yourself you’re making the right decision, and you might even get streaming real time stock quotes to get a sense of the action and feel the “pulse” of the market. Ultimately, given a choice, 99% of people would rather be doing something else. Would you rather play golf or read a balance sheet? Would you rather go to the Bahamas or listen to a shareholder’s conference call? How about going to a spa and getting massage… or listening to a CEO blow smoke? Unless you’re being paid a salary, commission, or the promise of a fat bonus, you don’t really want to be doing that. Since you don’t want to be doing that, it also means you are ill equipped to invest in stocks because without that information you’re basically gambling. At least casinos comp you when you lose big. :)

Retirement Funds Make Retirement Managers Rich

So you contribute to your 401(k), that’s wonderful. Your employer gives you a contribution match, that’s also wonderful. The bloody retirement fund manager takes out 1.5% in fees each year just to manage your funds. If you had your way you probably would put it in an index fund at Vanguard or Fidelity (fees are in the point-teens, that is they are all less than 0.2%) but you don’t get that option in your retirement fund. The reason you don’t is because 401(k)’s and your mutual fund options are a racket. That’s right! Why don’t 401(k) plans offer one of the best ways to invest? Because there’s no money in it for them. When you contribute $10,000, they get to take out $100 each year. Think of when you’re balances are in the hundreds of thousands? That’s a couple thousand in fees each year just to “manage” it. This is made even more ludicrous when you realize most mutual funds don’t beat their benchmarks. (If your company’s 401(k) lets you contribute to an index fund, that’s incredible and you are lucky – take advantage of it.)

There are plenty of reasons why the stock market is a Bad Idea, I’ve only shared a handful with you. This concludes this edition of the Devil’s Advocate.

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28 Responses to “Devil’s Advocate: Don’t Invest In The Stock Market”

  1. Saving Freak says:

    This is a great example of the thought process many people go through. Pessimism will make you poor.

  2. Lily says:

    What’s the alternative? ;) Let’s all run for the hills!

  3. Four Pillars says:

    Fair enough – so what should we invest in then??

    Mike

  4. GBlogger says:

    I really like the idea of your “Devil’s Advocate” posts, by the way. For this post, I think two of the four main reasons you list translate into reasons TO invest in the stock market. Because so many people are investing on emotion, rather than fundamentals, and because so many people would rather not spend the time to properly analyze a stock before buying it, that suggests to me that the people who do invest based on logic or who do analyze stocks before buying them can gain an advantage.

  5. haha…dude, you are hilarious. i, too, would like to commend you on these “Devil’s Advocate” posts. BRILLIANT!

    while i’m naturally not on the devil’s side here, i WOULD have to agree w/ your simple statement: “You’re Investing Emotion, Not Fundamentals”, this is how people are acting these days! sad, but true. *tear*

  6. paidtwice says:

    Yeah, I am with Mike and Lily… so what *should* we do?

    I’d cut a hole in my mattress and stuff it with money if only I had money. lol

  7. jim says:

    I have no idea what you’re supposed to invest in otherwise :) , this is a devil’s advocate post… I don’t agree with it personally so I never looked into it but this could be a good idea for the future.

  8. Adfecto says:

    Being devil’s advocate is a tough job so thanks for making an entertaining go of it. If it all comes crashing down 476 AD style I don’t know if anything will be of much help to maintaining a stable retirement… Arable land, loyal peasant farmers, and a hilltop stone keep, maybe? It worked for the nobles in the Dark Ages so maybe it will work again in the next go round.

    Barring a global collapse, you made a great case for why I should stick to index funds and hold a diversified mix of asset classes. Great post.

  9. jim says:

    I’d invest in something that would help me fly… :)

  10. Anna says:

    The US stock market is a limited universe. Invest in whole US stock market via index fund; all non-US stock markets via index fund; US corporate bonds via index fund; non-US international corporate bonds via index fund; US REIT index funds; non-US international REIT ETF or funds; cash (US and overseas); commodities (gold is a simple one). It’s allocating across everything in substantial portions at low expense ratios. Why put all your eggs in one basket with just US and just stocks?

  11. Lord says:

    The only thing worse than the stock market is .. everything else. Just think, you can buy t-bills offering less than inflation.

  12. Daily Yeah says:

    This is bad advice: The stock market isn’t as risky as your implying it is. You don’t have to go short to get rich, nor do you have to day trade. If you diversify your stocks and go long, you will profit. If you don’t play on emotion and focus on a strict strategy, you will profit. There is nothing else out there that’ll get the return you can get in the stock market. The real question is have you played the stock market before? Or are you just writing from a spectator’s point of view?

  13. Galls says:

    The only sound investment there has ever been through history is canned food and ammunition.

  14. Elizabeth says:

    I’m betting on other people continuing to make poor, emotional, optimistic decisions and continuing to have fun day trading. If that happens, index investing should be a good bet.

    I admit the Roman Empire example gives me a little pause, but if the U.S. falls apart in the next fifty years I’ll have to reevaluate a lot more than my investment strategy.

  15. Helen says:

    Interesting Devil’s Advocate post.

    However, you’re absolutely wrong that the stock market is a zero-sum game. Yes, there are plenty of people who’ve lost money. However, the stock market as a whole gains value (or loses it, like recently…), neither of which are zero.

  16. H_Roarke says:

    This article is completely misleading and fails to provide any alternatives. You lump day traders and long-term index investors in one category. That’s like saying a guy who gambles for a living is the same as the guy who works as an accountant.

    Historical returns aren’t meaningless, as virtually every PF blogger has proven by their net worth statments.

    Let me make this clear, I am not writting this because an argument against the stock market can’t be made, but because you make no argument against the stock market. This post is less Devil’s Advocate, and more, crazy angry guy on the corner waving a sign that says, “The world ends tonight.”

    I will agree with you on the 401k. The fees are way to high.

  17. saladdin says:

    Jim,
    My favorite part is reading the comments from people who do not know what “devil’s advocate” means and argue back at you.

    Galls,
    I’ll invest in can openers then.

    saladdin

  18. fathersez says:

    Your post gives me no worries.

    I have already taken my money from the stock market and invested them with Prince Entebbe from Nigeria who has promised me 75% returns per annum.

    I am going to laugh all the way to the Banks soon.

  19. avventura says:

    Your article seems to imply that it’s better to spend all your money instead of saving and investing. So what’s a person to do? Buy lottery tickets? Hit the gambling casinos? Become a B & E artist or online scammer? Rob banks? Hit up friends and family for cash? C’mon!

  20. mugsy says:

    Unless there is something about the market I don’t understand, which I am sure there is, I agree with the advocate. The only reason a stock goes up is because someone else is willing to pay you more in the long run than you paid for it yourself. The only reason they will pay more is because they ASSUME that someone will pay them more for it in the future. This cycle keeps continuing because people are told it will keep continuing by brokers/etc who make money off these trades and people want to believe this because they need this (hopefully gained) extra income for retirement. If this faith was lost, the stock market would come crashing down. Why would someone want to pay $400+ just for a piece of paper that had Google’s and their name on it? I mean, they don’t pay a dividend so why would any logical person pay $400+ for a piece of paper worth less than 1 cent? Even if you tell me that I would now own part of the company, what does that get me? If they sold every computer/piece of software/etc, do you think you would get any money from it? If you did, it probably would be less than the price you paid for one of the shares you bought at $400+.

    I admit that I invest a large percentage of my income in the market because I believe that society as a whole will keep the price going up because they think “well, it just does because the news tells me it normally does”. I figure I had might as well take money from these people and use it when I retire since the ones paying more the the stock then will be the ones still working.

    I just wish I would read an article once that states the real reason the stock market goes up. So what if a company’s earnings go up? The stockholder isn’t going to get a cut. You might get a small dividend, but it probably isn’t going to pay you back what you originally paid for the stock. I know there could be exceptions to this, but that is only true if someone else is willing to buy your stocks from you after the dividends have equaled what you paid for them. If no one would pay you anything for the stock, its value is 0.

    That was just a rant and might even be somewhat illogical, but I ask that anyone that disagrees with me to please post their reasons on why any/all of my points are wrong. This isn’t a challenge, just a request since I am not a broker or anyone else that works in the finance field. I am just another investor like the majority. Yet, I am one that doesn’t see how the stock market would work if people didn’t have the belief that it goes up “just cause it does”.

  21. webdiva says:

    We cashed in ALL of our stocks and invested in an apartment building. We now clear $5K/month retirement income. I feel confident that I won’t lose my shirt because of mismangement, liars, crooks, government intervention, or stock market manipulations. And the fees we pay to the property management company is worth it.

  22. Webdiva,

    Now you are diversified into many separate apartments in that buidling ;) and you won’t lose your shirt because of mismanagement, tenants who are liars, cheats, governments raising land taxes, or mortgage manipulations …

    … just playing Devil’s Advocate ;)

  23. Christopher Smith says:

    Mugsy, the underlying, “fundamental” reason that stocks go up isn’t because someone else will pay more. While this belief, called the greater fool” theory, is behind a lot of bubbles, it’s truly playing the market–it’s pure speculation.

    Investors, on the other hand, purchase stocks because you’re buying a piece of the business. Not only do many business immediately distribute their profits to shareholders in the form of dividends, the price of the stock rises because the business is making more money and has the potential to produce even greater dividends (or other income) in the future.

  24. I go completely against to the post. The stock market is a place or venue for trading –selling and purchasing — company stocks or shares. The stock market has positive and negatives aspects that you need to know, before you get involved. That is why it is very important to do research before you buy or sell any investments you have.

  25. pj says:

    This post is pathetic. Really a poor man’s view.

    You don’t have to ‘invest emotion’. Here are the necessary steps for retiring early:

    1. Put all your money in Vanguard Money Market
    2. Read a good book on indexing or go to diehards.org
    3. A basic allocation follows global market caps: Nowadays, that is about 60/40 stock/bonds and for the equity part, about 50/25/15/10 US/Europe/Pacific/Emerging markets. Ask on diehards.org for the links with this info.
    4. Make sure you own everything; A lot of index funds only hold companies worth more than 2 Billion USD (mid and large cap), so you might want to add small cap (250M- 2Bn) and even microcap (50M-250M).
    5. Understand that any deviation from these global market caps are ’tilting’. E.g. if you are an active investor that buys Google for whatever reason, he is tilting towards large cap, US, and equity.
    Good reasons to tilt are:
    a. Age: I am 22, I have 100% stocks. Popular rules for the bond percentage are 100-age, 110-age, 120-age.
    b. Political/Economic beliefs/insights: I am a libertarian and can’t stand the idea of owning bonds in a currency of which the central banks can print more of as they see fit. Even ‘inflation protected bonds’ won’t do, because the pricing is essentially the same as for nominal bonds, so the same risks apply, irregardless of the fancy name.
    c. Financial theory: read about Fama and French. Historically, both small cap and value strategies had better results, but higher volatility.
    6. Go to Vanguard and set up the funds of your choice. Or go to Zecco an buy the corresponding ETF’s.
    7. Pay yourself first. Make AUTOMATIC payments every month into your brokerage account the day your paycheck arrives. You won’t miss the money you don’t see. Invest every month, also during depression and booms, because all your fears, and so many more, are already priced into the market. Also, your fixed amount of dollars buys more shares in a downmarket than in an upmarket, so you will end up with an average purchase price BELOW the average share price for any given time period.
    8. STICK TO YOUR PLAN. I don’t care if web 2.0 will put Exxon out of business, or whether aliens are spotted on the moon. Stocks survived world wars, revolutions, depressions and so much more just fine. If somebody asks you what you think about the current state of the market, answer ‘I don’t know and I don’t care’. If they ask why, give them this list.
    9. When you have at least 25 times your pre-tax spending needs in retirements in your brokerage account, you can consider retiring. This is called the 4% rule, where you spend 4% the first year, then that same figure plus 3% on top of it to cover inflation (so 4,12% of starting portfolio), each year plus 3% for inflation, … You will have a 5% chance of running out of money within 30 years. For added security, consider a 3% withdrawal. I plan to go for ‘dividends only’, i.e. about 2,2% in todays global market.
    10. ENJOY LIFE!


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