The gorilla in the room is that the market is right all the time
• When you start believing you can beat the herd or you are contrarian it’s time to think again
There are some things that may be hard for investors to hear about being average and being fallible. ● If you think you’re contrarian, you’re much like everyone else.
“The main questions investors ask us seem to be about the exterior appearance of the market,” Adam Parker once wrote in a note to Morgan Stanley clients. “‘What is this price action telling you?’ ‘What are other investors asking you about?’ ‘How are other people positioned?’ or, ‘What's the current sentiment?’ ‘I’m a contrarian by nature’ they go on to say.
“Romanticising that you are a contrarian when you are indistinguishable from consensus can’t be good,” says Parker. “But the belief among many managers that their perspective is unique or contrarian, while everyone else’s is mainstream, seems … surprisingly common.”
Therein lies the paradox. Everyone thinks of themselves as above average, which is a very average thing to do. As Parker went on to point out: “The problem with sentiment as an indicator is that the data is often noisy and inconclusive. An even bigger issue is that some managers think they are not part of the crowd that produces this noisy, inconclusive data.”
This might explain why so many — believing themselves to be contrarians when they are really holding a consensus view — rarely outperform the market.
Why are there so few real contrarians? Noam Chomsky may have had part of the answer when he complained: “A lot of the educational system is designed for that … for obedience and passivity … to prevent people from being independent and creative. That’s not the trait that’s preferred or being cultivated. When people live through this, plus corporate propaganda, plus television, plus the press and the whole deluge of ideological distortion that goes on …”
● Your eyes might not lie, but your brain certainly does.
In the late 1990s, psychologist Daniel Simons and his student Christopher Chabris conducted the now famous “gorilla experiment” in which subjects were asked to watch a video of students passing basketballs. Some were dressed in black, others in white. Viewers were asked to count the number of times the players in white passed the ball. During the video, a woman in a gorilla suit walked into the centre of the frame, pounded her chest and walked off. Shockingly, about half the people who took the test — in countless airings of the video all over the world — did not notice the woman in the gorilla suit. Simons and Chabris had stumbled onto a basic lapse in human visual perception: “inattentional blindness”, the failure to see something conspicuous when focusing attention on something else.
The implication for stock market players is blindingly obvious: if we can’t see a gorilla walking across a basketball court when we’re focusing on something else, what are our chances of taking in the myriad of variables that influence an investment decision?
● Try as you might, you won’t beat the market.
Only a few people are truly great at what they do — awesomely, world-class excellent. And that also applies to investing. Why is that? Why don’t we all invest like Warren Buffett or George Soros? After all, some of us have been at it for 20 to 30 years. Why isn’t that enough to make us great investors? Unfortunately, research in a wide range of fields shows that most of us not only fail to become outstandingly good at what we do, we often don’t even get better than when we started. Some of us get worse with time.
When asked to explain, we generally have two answers, the first is hard work. We tell ourselves that if we work hard we’ll be fine. This may be true. We’ll be fine but no more than that.
Our second answer is the opposite of the first (which doesn’t stop us from believing it); that the apparently superhuman performers came into this world with a natural gift for doing what they end up doing.
In fact, there are no natural born investors or traders. None. Instead, it comes from a drive, a perseverance usually formed early in life. A passion develops rather than emerging suddenly and fully formed, though we still can’t fully explain why certain people put themselves through the years or decades of punishing, intensive work that eventually makes them world class.
When you start believing you can beat the market, ask yourself: is it because you fall into this very special class of people or is it because you imagine you have a natural ability?
● The market is always right (and if it’s not it doesn’t matter).
The market is right all the time! Always! There is no “but”, “maybe” or even “perhaps”. No! The market is and will always be right. If you want to know everything about the market, go down to the beach and try to push a wave out when it’s coming in. It’ll never happen.
The market is always right. The best thing you can do is realise it as soon as possible and use it to your advantage. And, even if it’s not true, it doesn’t matter. It’s easy to offer reasons why the market is wrong. A number of pundits make a decent living telling investors why the market is too high or too low. They claim it’s overbought or oversold for this or that reason. There’s only one problem: the market is always right. Here’s why: the price of anything, whether stocks, bonds or bananas is what a willing seller and a willing buyer agree on — no more, no less. It’s important not to confuse value and price. A stock may be valued much higher or lower than the price it trades at. But that doesn’t change the price. Value is subjective — it runs to extremes — but price is absolute. And perhaps, because prices are always changing, one could just as easily argue that the market is always wrong. But what would be the advantage in that?
The belief that the market is always right keeps you on the right side of the market — the defensive side — for several good reasons: it promotes discipline; you’ll cut losses without hesitation and keep your winners; you’ll follow the trend instead of hoping the market will do as you wish; you’ll trade according to your system as opposed to what the media or your buddies are advising.
● The best oil exploration deals never get sold outside of Texas.
As Martin Fridson explains: “Organisers of limited partnerships can ordinarily raise all the money they need among their close friends, assuming they have genuinely good prospects. If you are a stranger with a modest sum to invest [which includes most retail investors] that you are being offered the ‘opportunity’ to participate is a reason to be sceptical.”
THE PRICE OF ANYTHING … IS WHAT A WILLING SELLER AND A WILLING BUYER AGREE ON — NO MORE, NO LESS