The Future Is Random: Just Ask Your Money Manager

All you have to do is choose the right money manager.  It’s simple.  If you can just figure out which manager will outperform the market every year you can be rich.  You can retire early and live the life you’ve always wanted to.  It’s just that simple!

Until it isn’t.

If we had 1,000 money managers line up and you were told to pick which one would outperform the market over the next ten years, odds are you would be wrong every time.  It’s simple probability.  There is a 1/1000 chance of you being right. (So you’re telling me there’s a chance!)

Since we don’t know at the start which money managers are ‘good’, we are forced to look at the only ‘reliable,’ tangible evidence we have…

THE PAST…

So we look at past performance trends and find those managers who have had the best performance over the past 5-10 years.  And we have arrived.  We have found the key to outperforming the market.  And we can’t get in fast enough.

The problem with this tactic, though, is that markets are efficient (or at least highly efficient).  This efficient market hypothesis states that it is impossible that anyone can beat the market over an extended period of time.  This means that the manager’s outperformance you loved so much was likely due to random probability and not skill.

Just based on sheer numbers, someone or even maybe a few people are bound to beat the market over a 5-10 year period.

The odds of that same manager continuing their ‘lucky’ streak into the future, however, is also completely random.  You could simply invest your money with your grandma and have just as good a chance of outperforming the market as this money manager does.

Said a different way, the money manager who outperformed has no secret sauce.  He is simply the result of basic probability.  With so many money managers, someone is bound to have a streak that looks like skill.

Just so, the money manager who underperformed is probably not an idiot.  Their underperformance is also the result of basic probability.

Looking forward, each of these managers has exactly the same chance of out performing the market in the future.

This means that it doesn’t matter which you choose.  You could choose the person who outperformed every year or the person who under-performed every year.  And you would still have the same chance of future success.

Past Results and Future Returns

Depending on the past to predict your investing future is a terrible idea.  Why do you think every mutual fund company has to have the “Past results are no indication of future returns” disclosure.  The SEC forced them to start putting that out there to help investors understand that past performance has ABSOLUTELY NOTHING to do with future returns.

Markets are random.  And those managers who outperformed did so by random probability and good luck.

What to Do

So… If you can’t predict the future and you can’t rely on the past to predict the future, what are you to do?

Stop trying!

Own every company and don’t worry about. Through an index fund.  Then, whenever your buddy talks about a bankruptcy looming or a sure fire stock pick or how a presidential election might cause the price of X to skyrocket, you can say with confidence these absolutely freeing words.  Words that will never let you down and could save you from a world of heartache and regret later in life.

“I don’t know, and I don’t care!”

What are your chances of financial security and success?

A while back I was reading the Miracle Morning by Hal Elrod in an attempt to overcome my unbelievably ridiculous inability to get up early in the morning.  I actually began reading the book a second time immediately following the first time because it still hadn’t sunk in.

But that’s a topic for a different day.

In the book he quotes a study that I haven’t been able to get out of my head.

It was a study performed by the Social Security Administration.  I also found similar statistics on statistic brain.

It goes like this:

If you take any 100 people at the age of 25 and follow them until age 65 (40 years)  this is what you will find:

  • 1 will be wealthy
  • 4 will be financially secure
  • 3 will still be working
  • 29 will be dead
  • 63 will be dependent on social security, friends, relatives and charity

You might need to read those again!

66 out of 100 people will be either working in retirement or dependent on someone else during it.

If we assume we aren’t one of the 29 dead ones, that leaves just a 5% chance of reaching our goals by the time we retire!

What’s most disturbing to me about the study is that everybody sets out with the mindset to become the 5%.

But the best laid plans of mice and men often go awry.

This doesn’t just relate to money though.  No one sets out to get divorced, or end up in a job they hate, or get addicted to that drug.  The list goes on.

Intention is not enough.  The link between intention and behavior is too often broken.

Why?

There are likely a few reasons.  But one that comes to mind, at least for me, is my short-sightedness and desire for instant gratification.  I want what I want and I want it now.  It is very difficult to delay gratification on anything for a period of time, especially 40 years.

So, we fore go long term goals for short term satisfaction and gain.

That’s all interesting.  But what can we do about it?

Well, understanding may be one step.  But accountability is likely another.  Putting people in your life (such as a fee-only RIA for your investments) to speak the truth and help you remember the long term benefits when all you want to do is experience the short term reward.  This takes the ability to be wrong and to listen to others and to swallow some pride.

But we would probably all agree those are all steps in the right direction anyway.

The Only 3 Things You Need to Know about Investing

Metallica Style!

First.  Click Play.  Then Continue Reading as you listen to greatness!

 

Did that?  Good.

Now let me ask you a question… how much do you know about investing?  A lot. a little. Nothing.

For me:

4 years ago I knew nothing about investing.

3 years ago i knew ALMOST nothing about investing.

Today I know a lot more but I still have no clue about a ton of it.