Georgia, USA:
Hey Dr.Paiano,
My name is [[FRED]]. I am a college student at Valdosta State University. I currently study Marketing and Finance.
Recently, I've gained tremendous interest on investments but did not have a whole lot of knowledge since I am a sophomore.
So I watched your BUS-123 videos online through ITUNES. I love how you teach. Big fan of yours. I had a question regarding
the shareholder fees videos. I wanted to know if it would be smart to just invest through a Index funds than through a broker
and pay the Class A,B,C sales percentage. Can a individual do their own research on investing in a particular stock and bypass
a broker? Would that be more efficient in the long term?
Thanks
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Dear [[FRED]],
Okay, I have some unfettered time. Let's take a look at your two issues. Your two questions essentially are this:
1) Should we go it alone or use a broker, a.k.a. financial advisor, financial planner, wealth manager, etc.?
2) Should we choose index funds (a.k.a. passively-managed mutual funds), actively-managed mutual funds, or individual stocks?
There is much debate and controversy regarding both of these questions. Let's start with the first question. The answer is very dependent
upon the individual. Some people enjoy educating themselves and have the temperament, time, and ability to pick prudent, long-term investments
that should do well over the long-term. Others have no temperament, no time, and would rather eat barbed wire than sift through the literally
thousands of choices of investments. They want an advisor. Of course, if you want someone to help you, then you should expect to pay them for
their services. How you should pay them and how much you should pay them is a whole other topic of discussion. (We can deal with that at another time.)
The very famous investor Warren Buffet likes to say, "Investing is simple ... but it ain't easy!" As you go through the BUS-123 lectures, it is my hope
that you will understand that there are two parts to investing. There is the intellectual part (the "simple" part) and there is the emotional part
(the "ain't easy" part). Knowing about and understanding volatile (a.k.a. losing money) is one thing; living through it and not running for the exits
is another. As a broker, I believe I make my money not when the market goes up, but when the market goes down. My clients are paying me for those
times when it feels like you are kicked in the teeth by the huge drops that stocks experience periodically. This may sound self-serving, but I can
honestly tell you that I have seen people make the most fundamental mistakes over and over again. It starts to sound like a joke. The market goes up
and up and you hear people say, "Ooh! Ooh! Ooh! Is it too late to get in?" Of course, you know the answer but they go ahead and buy the riskiest,
high-flying stocks only to watch the inevitable fall and say, "Ooh! Ooh! Ooh! Is it too late to get out?" The problem is that the joke ain't funny
when it translates into real money lost.
So, in essence, if you believe that you are ready intellectually and emotionally, then, by all means, do your research and, as Benjamin Graham, Warren
Buffet's teacher, said, "Have the courage of your convictions." BUT DON'T SELL WHEN THE MARKET TANKS, Okay?
Now with regard to the second question, let's just say that most people really should not pick individual stocks, in my humble opinion, without some
serious education. A course such as BUS-123, Introduction to Investments, is mandatory for the vast majority of those who want to pick individual stocks.
A scant few will be able to teach themselves but, in my humble opinion, they are few and far between. Also, most people simply do not have the time to
pick individual stocks. For those with the motiviation and who are just getting started, my advice is, at first, to stick with large, multi-national
"blue-chip" companies with their roots deep in the economy. These are the companies that have been around for decades and will continue to be around
for decades. Oh, okay, you want a hot, new high-tech (a.k.a. high-wreck) company? Buy one "hot" company for every 4 or 5 dull stalwart (as famed-investor
Peter Lynch calls them) companies you buy, okay? Plus don't forget that you will need to spend time keeping up-to-date about the companies you invest in.
The world changes very quickly these days, in case you had not noticed.
So let's say that we would rather choose mutual funds and let the professionals pick the investments for us, yes? Now, should we buy low-cost, index funds
(a.k.a. passively-managed funds) or go with actively-managed funds? The drumbeat from the financial media grows ever louder each day. "Active funds are bad.
Passive funds are good." So if you are a financial media journalist and you want to keep your job, you had better also start banging loudly that refrain
because if you dare to point out that although there are many funds that underperform, there are many funds that have beaten their respective indices over
several years and some for several decades, then you will be accused by the armchair generals in the comments section of your article as being a shill for
the industry. Don Phillips, former CEO of Morningstar, said, "The active-versus-passive debate has been grossly overplayed to the detriment of many fine,
actively managed fund shops and to intelligent investment discourse."
Let's go back to Warren Buffet’s mentor, Benjamin Graham. Decades ago, he warned against any investment strategy that removed human judgment
from the equation. Index funds do just that. When a company’s stock price is going up, the index fund must buy more shares. They can not stop and
think, "Has greed overtaken common sense with regard to this stock?" They must buy. So when a company has a meteoric rise, the index funds buy more
shares, thereby driving up the price even further. The exact opposite happens on the downside. When a stock is beaten down for whatever reason, the
index fund manager can not ask themselves, "Is now a good time to buy this company? They are a solid franchise and have great prospects for the future."
They must sell.
The index-fund drum-beaters will counter that trying to determine when a company is over or under valued is simply too hard for anyone to accomplish.
Well, hitting a fast ball at 98 mph ain’t easy, either. Neither is driving a tiny white ball 330 yards down the fairway into a tiny little hole in 3 shots.
But there are people who can do it. And history tells us that there are many actively-managed funds who can consistently beat their respective indexes over
statistically-significant periods of time, not just one year, but decades. Those are the people who I want to manage my mutual funds. They are out there.
Don’t let the drum-beaters tell you otherwise. Do your research and you will find them. (Hint: Check out the links to the mutual fund companies in the
chapter 4 section of the BUS-123 web site.)
One of the companies that has trumpeted index funds over active management is Vanguard. Allow me to pose a simple question for the drum-beaters:
If Vanguard is absolutely convinced that index funds are the only way to invest and that active managers are simply stealing their investors’ money,
how come they have not shut down their PRIMECAP and Wellington mutual funds and transferred all their investors’ money to index funds? It is because
these funds have shown they can do what everyone is saying can not be done. They can "beat the market" over the long-term. That is where I want to
put my money! I want managers with long-term perspectives that have done well in good times and bad times. Just as with financial advisors, it is
in the bad times where the good mutual fund managers earn their salaries, in my humble opinion.
As I said in the previous e-mail, you have to be careful when you ask an academic a question about their subject. We can talk a whole lot longer
than any reasonable person would ever want to listen. But for us, it is a very great joy to have the time and opportunity to be able to do so.
So, thank you for this opportunity, and thanks, again, for your kind words. Keep in touch, [[FRED]]! We love to hear how our students are doing,
no matter where they are in the world. If you ever find yourself in San Diego, we would be happy to show you around our little corner of the world,
Southwestern Community College.
Best of luck and success to you!
Sincerely,
Frank
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