Beating the Market since June 2001

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The short version

BS Education with high honors

BS Mechanical Engineering with high honors

Except for a brief three-year interlude as a teacher, I spent the last forty years working as a machine designer, engineer, and research scientist.

During the ten years before I retired, I was granted eighteen patents.

I was born in Manhattan and raised in Brooklyn and Queens.

My parents immigrated to the US after the First World War.

Neither went beyond the eighth grade.

But they both spoke English better than most contemporary US presidents.

I moved to Rochester, New York in 1966 with $20 in my pocket, a $3000 debt, and a good work ethic.

According to Barron’s, I am now “Beer and Pretzels rich”

The next step up is “Champagne and Caviar rich”

I usually pour beer into my champagne glass.

And I tried caviar for the first time in 2001.

There won't be a next time.

But moving toward the next plateau is a lot more fun than it was getting to the first one.

The long version

Money and machines have always fascinated me. When I was ten years old, I attempted to repair a toy car that was powered by a mainspring mechanism. As I was disassembling the car, the tightly wound mainspring burst from its housing and gouged my left thumb. I still bear the scars from that wound, so naturally I decided to become an engineer.

My mother was horrified. My father worked as the treasurer of a tiny company headquartered two blocks from Wall Street. On October 29, 1929, the stock market crashed while my parents were on their honeymoon. My mother knew they were going to dump the engineers and keep the accountants. She was right about the engineers and the depression, but we “boomer” engineers were lucky. Most of us never had a problem finding employment. Except for a brief three-year stint as a teacher, I spent the last forty years working as a machine designer, engineer, and research scientist. Research Scientist - sounds grand, eh?

I became interested in the stock market because it was a frequent topic of conversation with my father. Unfortunately, as a victim of the hyper inflation that devastated Germany after the first World War and of the US depression of the thirties, my father never really had enough money to profit much from the stock market gains that occurred during and after the Second World War, so it took me a while to figure out the old man knew a little more than I did about one or two things. That point was driven home when, during his funeral, many of his friends told me that the financial advice my father had given “had made them rich”. That’s a good epitaph.

I began investing in the stock market in 1969. If you know your stock market history, then you know that 1969 was not the best time to start investing. But I stayed with it, and I contributed money to my portfolio every year. During some years, I lost money and during some years, I earned money, but I learned something of value during all those years. I realized that successful rentiers earned more money while they were on vacation than successful engineers earned while they were working. By 1985, I still didn’t have enough money for financial independence, but I had enough to make careful analysis of investing decisions worthwhile. About ten percent of all investors carefully analyze their investing decisions. Most people devote more time to a new car purchase than they spend on investing decisions. That may explain why ten percent of all investors earn ninety percent of all profits.

Hint: Don’t waste time researching cars. Mechanically they are essentially identical and they will all depreciate about 20% per year. The more expensive ones are generally more “mechanically and electronically sophisticated”. That’s a euphemism for “delicate” meaning they’re gonna need a lot of very expensive and very annoying maintenance. Buy the cheapest car that will meet your needs, especially if you have not yet attained financial independence, and confirm that it will function satisfactorily with regular gas. Pay cash for it because that will keep you focused on the true cost. Most folks don’t really know how much they’re paying for a car because the auto industry doesn’t want you to start thinking about it. Don’t waste time or money washing the exterior. If its appearance “leaves something to be desired”, then give it a “Power Wash” by taking it for a two or three minute high-speed drive thru a rainstorm.

Sorry about that, but this is a biography; that last paragraph tells you a lot about me. Let’s get back to the question: How does one carefully analyze investing decisions? I digressed earlier because it is easy to talk about cars; it is not easy to answer that question in a straightforward manner. There is no shortage of business schools. Most of them have graduate programs that promise to “turn you into a leader" by teaching you "cutting edge techniques" in areas such as "Finance", "Financial Management", "Financial Economics" and much, much more.

By the mid-eighties, I was in the beginning of my fifth decade and the idea of returning to school was about as appealing as a root canal. I can still recall the pain and suffering I had to endure to acquire my engineering degree. However, I knew I had a lot to learn about investing so I decided to investigate the possibility of taking some courses. I quickly learned that investing is simply not taught. I’m going to say that again because it bears repeating: There is no known legitimate educational institution that will teach you how to invest. Why not? By 1983, the Efficient Market Hypothesis had established itself in the nation’s business schools so strongly that I was told: “No graduate student would dare send off a paper criticizing the hypothesis.” The hypothesis states that stock prices respond so quickly to information that it is simply not possible, to consistently and over the long term, pick stocks that will appreciate faster than the general stock market. The people who teach this stuff have impeccable credentials. The CV of one with whom I spoke in the mid eighties follows:

Professor X earned his Ph.D. in Economics, Finance, and Accounting and his M.B.A. in Finance from the University of Chicago and an A.B. degree from Macalester College. He was awarded the honorary degree, Docteur Honoris Causa, by Universite Catholique de Louvain, Louvain-la-Neuve, Belgium, July 1991 as well as by the University of Bern, Bern, Switzerland, December 2000. In June of 2001, he was awarded an honorary Doctor of Laws degree by the William E. Simon Graduate School of Business Administration, University of Rochester, Rochester, NY. He served as a Visiting Scholar at the Tuck School of Business at Dartmouth College from July 2001 to June 2002. In 2002, he was named a Fellow of the European Corporate Governance Institure (ECGI).

It takes a long time to create a background such as this. Those who are successful in doing so tend to associate with one another and they are generally inclined to encourage one another. There are thousands of them all over the world and most of them are teaching their students the market can't be beaten. They are making the lives of independent investors, if not easy, then at least easier. If everyone were desperately trying to beat the market, then it would be a far more difficult thing to accomplish. The Dr. X's of the world are generally living well. Some of their students get good permanent jobs on Wall Street and some of their students get good temporary jobs at companies like Enron. Many of their students make themselves rich but they do not make their customers rich. As Fred Schwed said almost one hundred years ago: "Where are the customers’ yachts?"

So, if one cannot learn how to "beat the market" in a legitimate educational institution, how does one learn? I started by reading any book I could find on investing and speaking with anyone who seemed knowledgeable. I learned why the Dr. X's of the world were teaching their students the market couldn't be beaten: Because eighty percent of all who try, fail; some fail miserably. After a lifetime of teaching and investing, Benjamin Graham, the father of "Value Investing" said: "I am no longer an advocate of elaborate techniques of security analysis in order to find superior value opportunities. I cannot beat the market." However, that did not prevent one of his disciples, Warren Buffet, from attempting to beat the market.

Question: How many beat the market?

Alan Greenspan's advice may help answer that question: "It has been my experience that competency in mathematics, both in numerical manipulations and in understanding its conceptual foundations, enhances a person's ability to handle the more ambiguous and qualitative relationships that dominate our day-to-day financial decision-making." Wahoo!

Twenty percent! Eureka! If eighty percent fail, then twenty percent are gonna succeed! Beating the market may be difficult, but the fact is that about twenty percent of all investors are going to beat the market. I wanted to be one of them. We'll see…