Thursday, September 28, 2017

The Stock Market's IQ is Only 105

It was 23 years ago and I, an intrepid, determined young man, wanted to prove to the middle aged baby boomer interviewing me that I was indeed the best man for the internship "job."  I had perfect grades, truly did have the determination for the job, and perhaps (what was in hindsight the biggest qualifier) I was supporting myself and didn't rely on mumsie and poopsie to support me.

And so there I sat, answering questions the slightly rotund, middle aged man posed to me, until he asked me a question that I had never been asked before:

"So what investment ideas do you have?"

This question threw me off because I didn't really think much of investing because I had no money to invest.  If anything I was just trying to pay cash for college so I wouldn't incur any student debt.  But I did have one investment idea which had been battling about in my brain, that though elementary, was the first that popped to mind.  And so circa 1996 I said, "I would buy up property in the outer suburbs from farmers, hold onto it, and sell it at a gain."

The then-middle-aged baby boomer looked at me, wholly unimpressed, looked back at his notepad, scribbled something down and I obviously did not get the job.

Fast-forward to today and we of course, with hindsight, realize just what a - ahem - BRILLIANT (and devilishly handsome) young man I was.  Because any dope investing and buying up farmer land in 1996 would have made a killing to the point of paid-retirement had he sat on that property for 10 years.

But there is a more important lesson lurking in this story and one that my readers can gain from.  And that lesson is not to overestimate competition, enemies, people, or society as a whole.  Do not play 4D chess when these entities aren't even capable of playing checkers.  For if you overestimate your adversary, society, an economy, a market or any other system, you inaccurately diagnose what is going on, and thus make wrong decisions that will cost you in the future.  And the entity I want to discuss today is the financial markets.

To be succinct, the financial markets operate at an IQ of 105.  Not dumb, but certainly not smart.  But to the untrained (though logical eye), you may view the financial markets as this vast, complex, overly intelligent entity that only Harvard and Ivy league "financial geniuses" can understand.  However, if you do, you are over estimating the "intelligence of the market" and therefore going to fail to predict it.  This unfamiliarity most people have with financial markets allow people who work in the financial markets to "bluff."  To present a fake front or air about them, making it seem they're much smarter than they actually are.  But if you look at the type of people who compose the financial market system, you'll see financial markets for what they truly are - a ho-hum, terribly UNimpressive lot.

First there are the clients, namely individual and corporate investors.  I differentiate between "corporate" and "institutional" investors as institutional investors (hedge funds, quants, insurance companies, etc.) are the ones who might actually have some smart people about them, while "corporate" investors I consider your mindless HR managers who manage 401k and 403b plans.  Regardless, individual and corporate investors are your you rank and file sheep who never ask "why does the stock market keep going up," never bother to ask "what if everybody invests in a 401k?  won't that inflate the stock market," and can often be found at the sports bar, horking down wings, wearing another man's jersey.  These people have an IQ on average of around 90 and think The Stephen Colbert Show is news.

Second, there are the actual "professionals" in the finance industry.  I use that term loosely because most professions in the finance industry don't require any real intellectual rigor or effort.  Nearly everybody in the financial markets (no matter what they say) are salesmen.  Bankers, brokers, even investment bankers do nothing more than sell, sell, sell, and then claim to be "geniuses" when they get a commission on a deal.  The majority of day traders fancy themselves geniuses when the stock market is booming, but oddly enough disappear when the general trend in the stock market is down.  M&A types think borrowing at an artificially low 3% to buy back stock in LBO's is somehow "genius" when in reality the federal reserve's charitable monetary policy makes it so a three year old could do it.  And let's not forget the talking heads at CNBC, the financial news media, and the legions of professors and "experts" they have on the show.  I still fondly remember the days they were talking about Krispy Kreme's IPO.  In the end and in their totality, these are not brilliant financial geniuses who know something about the financial markets you don't.  They are your run of the mill aged "dude bros," with IQ's solidly in the 105's, who are only capable of graduating from business school and all want to be "the big idea guy."

Then there is a modicum of smart people.  These are more of your truly renegade maverick types who not only possess intelligence, but the courage to rebuke group think and think independently.  Schiff, Shiller, even moi.  Quants, econometricians, and other data science types.  And traditional finance professionals who happen to also be genuinely intelligent (as profiled in the movie "The Big Short.")  These people certainly have IQ's above 120, but their numbers are so small, and the financial industry so unmerocratic, they have no affect on the market's overall intelligence.

The result is an industry that not only has an unimpressive IQ of 105, but is completely obsolete.  Additionally, because it lacks true, genuine intelligence, it often gets caught with its pants down, or even its hands in the cookie jar.

In terms of obsolescence, most finance professionals are simply not needed in that the vast majority of them cannot beat the stock market returns of the S&P 500 index.  The average person, without a day of finance education, can invest in the index and beat 85% of the professionals, all replete with their MBA's from Harvard.  Even sales people are obsoleted through in the advent of roboadvisors.  All one has to do now is go to a site like Betterment, answer some questions online, and the roboadvisor will come up with a portfolio of index funds that will match your target retirement date (I believe in this product so much I offer it as an affiliate program).  One could even say crowd-funding will inevitably replace investment banks...that's if most crowd funding ventures didn't completely suck.  These people never did anything truly intelligent or genius-like.  And so now that the technology exists that can do 105 IQ level tasks, there's really no need for the majority of finance professionals today.

Of course, this doesn't stop people from entering the world of finance.  Plenty of ex-high school football players, dude bros, frat boys, and other normies who watched too much "Wolf of Wall Street" want to make their millions.  But instead of doing it honestly like say an entrepreneur, a STEM major, or surgeon, that requires too much work and sadly, an IQ around 120.  So off to business school they go where they think they're going to "break their way into Wall Street" and all become investment bankers. 

And some do!

But remember, these aren't terribly intelligent people.  They're conformists and morons who were wearing their hats on backwards in the 90's.  And thus, even though it is PAINFULLY obvious there's something wrong with the stock market or economy, they lack the intelligence to see it.  Thus we get;

The dotcom crash
The housing crash
Dick Fuld
Lehman Brothers
The Great Recession

And then there's getting your hand caught in the cookie jar.  Some of these people are so egotistical, so desperate to be rich and successful, but lack the mental strength to do it, they'll resort to outright theft.  Bernie Madoff, Tom Petters, Edward Woodward, Jon Corzine, Jeffery Skilling, the list goes on of ponzi schemes, embezzlement, fraud and other financial sins where "financial geniuses" just couldn't make an honest buck.  And yet, all the sheep look in amazement as if there's a thing called "financial geniuses" or something actually intelligent going on in the stock market instead of hustling, sales, and lying.
The cost in overestimating the financial market's intelligence is you spend money you simply don't have to.  Financial advisors, financial planners, brokers, mutual fund managers, consultants, and salesmen, none of them are doing a job you can't.  These "super smart people" can easily be replaced with roboadvisors, Berkshire Hathaway, investing in the index, or simply spending less than you make.  So I implore you.  Do not be intimidated by what is simply "the unknown."  Financial markets are not that complicated and you can quickly self-educate yourself on their basic functions.  And if you're willing to do this, you will save yourself thousands in managerial fees and commissions, not to mention ensure you never get scammed by the Bernie Madoff's out there.

Aaron Clarey is a banking veteran who knows the world of finance inside and out.  And he only wants to help people realize they don't need it.  He is the author of many books on finance and economics, and also offers an introductory course to stocks, bonds, and investing.  You can tune into his ranting, curse filled podcast here, and visit his consultancy here.


Anonymous said...

Good stuff here.

I have a huge chunk of my net liquidity on Betterment already. There's just no reason to have a human do what simply tracking a bunch of indexes with ETFs will do just fine.

I did go to a business college and studied applied mathematics (with the goal of being an actuary). I felt like the finance guys were simply a watered down version of my studies. Glad to know adulthood proved me right!

Steamship Trooper said...

This explains why I had more intellectual stimulation in my physics classes than my finance classes. Interestingly, I could bring and explain finance math to physics students, but count not bring physics math to finance students.

Zendo Deb said...

I once took a finance class that was for the first year of an MBA. It was incredible to me that at the end of a semester, there were people (with college degrees of some kind) couldn't wrap their heads around the equation Assets = Liabilities + Owners' Equity.

It was basically a how-to-read-an-annual-report class. Balance sheets. Statement of cash flows. And few other things.

I got out quick, since I had been reading annual reports for some time before I graduated from college.

Anonymous said...

Nah! I was the guy how who interviewed you, and I turned you down because of armpit stink

They call me Gruffly-Hate-Stink at the office, but, BOY, did you STANK!

Cappy, you stank so bad that my toilet bowl closed for business!

Or so they told me!

This comes from an old friend... X\|ysx

Yes! Even he smelled it.

Flush it man!

Flush it fast!

A Texan said...

They should make it a requirement that people in finance have engineering, math, or physics degrees. That would be a helpful start.

Anonymous said...

Financial managers are fools who don't beat the market, but there are always greater fools who would do worse, much worse, if they didn't have financial managers sell them better options than treasury bonds or baseball cards or other such trash. Helping out greater fools is legitimate arbitrage.

AI was supposed to replace the finance bros back in the 70's as soon as Black-Scholes was formalized. It isn't going to happen. Economics doesn't work without its artistic showmanship and sales elements.

Jim Scrummy said...

You are correct about your mid-90's land buying idea. I've seen it in action in the Mid-Atlantic USA area where I currently live. I use to work in the home building bidness (left it before the big blow up that occurred in the 07-09 timeframe), and all of our land acquisition was in farmland area that was bordering the then current suburbs.

In regards to using a CFP for our investments, never have and never will. A few have tried to sell us their actively managed portfolios, but my "passive" index portfolio that I set up for our investments performed better over both the short term and long term durations. Why bother to pay for something when you can match or better the performance on your own? So I don't. The only ones getting rich are the CFPs who can sell themselves, but not deliver, and still get the management fee.

Omega man said...

It may interest you to know that John Jacob Astor I, made his fortune in precisely the manner you described. It's too bad he was not a bit more cognizant of how some of the great fortunes were made.

Anonymous said...


You forgot to mention Enron.

At the time of its meteoric rise in the estimation of morons, the broker holding my account was breathlessly, endlessly effusive regarding the wave of the future - Enron - a god to be reckoned with. Yet enable to explain how it worked, other than through magick.

I interviewed for a broker position once also - while answering inane - nay, idiotic questions at an M-L brokerage, happened to glance around. The nearest cubicle was occupied by an obese slobbering noseminer. The place was not for me, thankfully M-L was in agreement.

Yeah, the entire slop market is a fraud - and a rewarding one at that for those willing to fleece the sheeple.

Anonymous said...

Most people are not entrepreneurial even if they possess a high IQ, or have an original idea that is marketable, in order to become wealthy. What you need is time and money. We all had/have the former, but few the latter. No debt, index funds and selective property holdings for passive income and you should do ok.

Hard work, prudent planning, being a minimalist and the willingness to learn and being vigilant to look for the next opportunity or when to cut your losses will get you ahead over time and you will secure a comfortable life (I know a few guys in the trades with nothing but a HS diploma who are the living embodiment of that). Unfortunately most are not cut from that cloth.

Bill said...

Hur hur butt i buy dips and invest in radio shack. I is smrt invester!

Take The Red Pill said...

What's truly frightening is that the sheeple who line up to be fleeced by the Ponzis and Madoffs of the financial world, are also able to vote -- and usually line up to be fleeced by the Obamas and the Clintons of the political world.
Not for nothing did the Founding Fathers set up our government as a representative republic (with the privilege of the vote restricted to landowners) and institute the concept of the Electoral College in the Presidential election; in addition, they were completely against 'democracy' (to them it meant little more than "mob rule") and the concept of 'universal sufferage'.