Investing 101: Why You Can’t Win

Ah, the memories! They tickle the back of one’s mind like a feather, sometimes annoying, sometime pleasurable, always subtle and seemingly unsubstantial. As a feather is a wonder of engineering, so too is memory a wonder of the human brain. Sometimes the emergence of a memory is enough to take you back to happier times and greener pastures. Sometimes, like this one, it’s enough to make you vomit copiously.

Recently, I’ve been hearing a lot of stock talk, i.e. chattering about the stock market. The stock market is back in vogue, you see, and people are getting braver as the market “recovers” much of what was lost in the last three years. Part of this is psychological – people like to think that something, especially wealth, that was seemingly gone forever can be reclaimed. The second part of this new phenomenon brings to mind an old saw – history repeats itself.

Now, I’m not here to urinate in anybody’s Wheaties. If you’re all up for a jaunt into the stock market, be my guest. However, when I hear Gen X’ers and slackers talking about owning stocks and making a killing, I start to get worried because the young have a flaw built into the model; the very often have no idea about what calamities have befallen their elders, nor do they listen very well to sage advice, even when they ask for it.

Part of the renewed interest in the markets by the younger set has to do with the idea that Social Security (as if most of them actually know what that is) probably will not survive in the current form (or maybe, at all) as we know it. The reasons are many; an older demographic which produces no usable/salable product or skill still make demands (monetary) on the social structure for their continued well being from ever more-slender revenues. A shrinking tax base, due to under-population in the working-age demographics, means that less money will be available in the future for social welfare, especially for the retired. Finally, the shift in the economy from an industrial, trade-based standard to a service-oriented basis, which is about to shift again to a technological basis, means higher levels of competition for lucrative paychecks later on.

The American economy of past ages has already moved away from agriculture, automobiles, shipbuilding, textiles and manufactured goods. The second-generation economy, which was based on services (financial, information systems, medical, etc), is being drained by competition from overseas (cheaper workers, lower benefits, longer hours), and the incredibly crippling (sometimes) burden of regulation. The next big shift in the economy of the United States will tend in the direction of scientific/technical disciplines – bio-tech, genome research, pharmaceuticals, chemicals, electrical and theoretical engineering. In short, jobs that will require more than a bachelor’s degree and an internship. These jobs will require PhD’s and a long apprenticeship before the younger crowd that takes them sees a return on the investment made on their education.

Thus, all the new talk about the stock market. See, when people begin to realize that their prime earning years are even further off then they are now, they begin to worry more about the prospects of their long-term future. This is the foundation block of the soon-to-be second “new” investor class. Add to these worries about retirement by 20-year-olds the fact that stocks are beginning to look more attractive (profits are up again, thanks to massive layoffs and shedding of payroll and benefit obligations), and we have a “new” enthusiasm for the markets arising.

I've spent 18 years on Wall Street (in the tech field, not behind a trading desk) and I have a bit of startling and disappointing, news for those who wish to dip their toes into the market again; The game is rigged against you. It always has been and always will be. Once you know what you’re up against, you can still go ahead and make money (you will make some over the long haul, provided you’re prudent), but you can forget about making a killing. Killings on the market occur only once in a lifetime, on about the same timetable as a Clinton telling the truth.

Those who do make a killing, the very few, do so because they have learned how to play the game by their own rules, i.e., they’re generally ruthless, have no life and thus spend their time in front of tickers all day, know the loopholes in the system and they’re anal retentive. They generally get lucky at least once and score big –like getting a Royal Flush at a Las Vegas poker table.

Now that I’ve told you that the market is rigged against you, let me inform you as to why. There are two fast and simple rules you need to remember. First, it takes money to make money. If you doubt this, do some quick arithmetic and figure out the difference between 7% interest on $100,000 and 7% return on $1,500,000. Multiply that second number by 8 to 10 times, and see how that works out. This all assumes, of course, that you never lose any part of your initial investment. The second rule is that money is not the mother’s milk of financial markets (it’s only the grease), information is. Information comes from a variety of sources and at alarming speeds. Brokerage houses have the wherewithal to collect this information from various sectors of the market, and then direct it to specialists who can make use of it. You don’t. You also don’t have access to it at the same time that the big boys do. They say that timing is everything, and never was that truer than when it comes to financial information.

Also, for those of you who might be ignorant about the inner machinations of the financial world, let me just say one thing: SIAC. SIAC is the Securities Industry Automation Corporation, which is a fancy way of saying that it is a clearing-house for information. SIAC’s main task is to control the flow of information into the markets. It does this by being the center where it is initially collected before being piped out to the various brokers and banks that make use of it. It also ensures that all the competitors get the same information at the same time, so that no one has an advantage, at least in theory. SIAC, incidentally, is supported by all the financial services on The Street, which theoretically means everyone has equal access in real time. Everyone except the guy sitting at home, tending to his portfolio via personal computer or the one that depends on a telephone to reach his broker. Technically, SIAC is supposed to be the first defense against “inside information”, which no one has ever adequately defined, but all can agree is a bad thing. Realistically though, SIAC dispenses “inside information”, that is, it gives restricted information to those that pay for it before that same information is made available to the public. Therefore, the big boys and the houses can take advantage of fresh information immediately, the private investor gets his with a built in lag.

So, when your broker calls you with a “hot tip”, rest assured the firm he works for has already made its money -- now it’s his turn. What he’s doing at that point is drumming up business, or to be more accurate, a commission. What you have to hope for when this happens is that you are one of the early suckers on the gravy train – as more people buy the stock, the price goes up, at which point, your broker will either inform you to hold it or dump it. You hold a stock in anticipation of another spurt in growth (i.e., more good information is forthcoming, it just hasn’t arrived yet), or you dump it to make a pile before it completely collapses. Generally, “hot stocks” fall into two categories – new products and services which will eventually become household names (like Coca-Cola or Xerox), or trendy issues (like Ericsson, Yahoo and AOL) which will eventually fall out of favor with the general public or quickly saturate their market niche --- in which case, you make a bundle and run before the train runs out of steam. Your broker cares not either way, he got his commission already, and has a ready excuse for losses – the market is sometimes unpredictable and nothing is guaranteed.

So, now you know how the information game is played and what it means to you, the small investor. The next step is to find a “reputable” broker.
Brokers fall into three general categories, but in the end, they’re all the same, basic type of person – licensed bookies in expensive suits, handicapping the markets the way one would racehorses, and all are obsessed with money. Usually, this covers both ends of the spectrum from the committed professional who believes in the power of free markets to benefit mankind, all the way to the shiftless backstabbing maggot who would sell his own grandmother into slavery if you offered him enough. Most fall into the middle-range, which I will call “Weebles”. Weebles, if you remember, were little egg-shaped dolls that were weighted at the bottom. Their main attraction was that no matter what you tried to knock them down, they would always recover their equilibrium and stand upright. A Weeble, in this sense, bends with the forces applied against it, and does his/her best to not fall down. This makes them self-centered and egocentric, the reason for their own being to ensure their own personal position without being held responsible for their actions. A Weeble will not knowingly break a law or violate ethics unless he/she believes that they can get away with it or that no one will find out. Weebles abound on Wall Street – remember Enron? Global Crossing? WorldCom?

At the end of the day, while your broker may most likely work for a major corporation, he or she is really a personal business. The Corporation just gives them a desk, phone and PC and the appearance that everything is on the up and up. Your broker makes a salary from his corporation, true, but he makes the majority of his money on commissions, bonuses and perquisites, and this is where his and the firm’s interests coincide. He brings in the business, no one cares how as long as the check clears and that the I’s are dotted, the T’s crossed, and both get paid. His only concern for you lays in his overriding wish to keep you coming back. Every time you come back, he gets dollar signs in his eyes. Like a crack dealer.

Can a small investor, working on his own, or even with a broker, get a good return on his investments in a game that’s fixed? Yes, they can. There are ways to make a buck or two without getting rolled or lied to in the process. None of it requires a deep understanding of economics, accounting or business in general. What you need is common sense. Common sense, in this case, means that you do your own legwork – you do your own research since firm-based research is usually tied to either a marketing scheme, or the institution that issues it is a major investor itself, therefore, it is tainted. This means you look at financial reports with a critical eye – if there’s something on there that you don’t understand, make an effort to find out what it means. Don’t look at “hot issues” unless you can determine the usefulness of the product or service they offer and if it’s based on what seem to be sound principles. AOL and Yahoo, for example, took off they way they did because the internet was a novelty and because we were promised a broad range of content. In the end, a saturated internet market brought you all the porn and Instant Messages you stand, but didn’t revolutionize your life the way it was supposed to. This is because most of the people involved in hyping the stocks were ignorant of the technology and they mistook the immediate demand as an indication of a “new direction for personal computing”, which sounds great in a report, but what the heck does that really mean? If the Internet could buy groceries for me, it would have been great. If it could have given me insight as to the meanings of existence, it would have been profound. Instead, it supplanted the Post Office and replaced the telephone as a means of communication, and consequently, took on the same usages both of those previous inventions did – it’s another way for people to yak at each other over the back fence. I defy you to find one person who can honestly say that their life was dramatically improved by the ability to get e-mail.

So, do your homework, then apply common sense, and lower your expectations just a bit. You aren’t going to become the next Warren Buffet so stop thinking that way.

Common sense and applied intelligence can save you a lot of heartache later on. And incidentally, would all the market yakkers please make an effort to learn what they’re talking about? If I hear one more 20-something whisper the potential earning power of skateboards and “power drinks”, I’m going to get sick. In the end, playing the market is no different than betting on a racehorse – it just all takes place in a seemingly more civilized place than OTB.