The wealth-building thread

[ahofer]

You can easily see if it worked or not within 24-72 hours of the post.

No, that's untrue.

I'm in the investment management business. There is a GIPS-compliant, third-party audited, record of how managed accounts following *every bit* of my teams' advice performed over the last 17 years. Every claim we make has to be accompanied by a summary of those records. Nothing short of that is a track record you can count on, and therefore should be treated as bluster. Nothing personal-I don't know you, that's my generic advice.

You could be a finance genius, idiot or midwit. We don't know from your posts, other than a presumption that someone who can really generate exceptional returns rarely brags about it on the internet because increased market impact would dilute the effectiveness of their strategy.

 

[amper42]

No, that's untrue.

I'm in the investment management business. There is a GIPS-compliant, third-party audited, record of how managed accounts following *every bit* of my teams' advice performed over the last 17 years. Every claim we make has to be accompanied by a summary of those records. Nothing short of that is a track record you can count on, and therefore should be treated as bluster. Nothing personal-I don't know you, that's my generic advice.

You could be a finance genius, idiot or midwit. We don't know from your posts, other than a presumption that someone who can really generate exceptional returns rarely brags about it on the internet because increased market impact would dilute the effectiveness of their strategy.

I am not a professional. I don't manage anyones money and have no desire to do so. Consider me an idiot. I'm fine with that. I simply think it's awesome how many times this formula has worked to provide an edge for me.

 

[ahofer]

This is a measurements-oriented forum. There are standards for measuring complete investment performance and history (see Global Investment Performance Standards). After that there are useful quantitative techniques for separating skill from luck (a critical element in investment analysis), such as Information Ratio calculations.

My advice to anyone reading this thread is to apply the same rigor to examining investment claims as ASR fans do to claims about audio. You want to make sure the measurements are complete and accurate, and that you can interpret them without too much error.

Much like audio, everyone wants to shortcut these laborious steps. But your financial wellbeing is at stake.

 

[blueone]

...someone who can really generate exceptional returns rarely brags about it on the internet because increased market impact would dilute the effectiveness of their strategy.

Out of curiosity, what do you consider really exceptional returns?

Wouldn't increased market impact from publicizing your strategy magnify the effectiveness of your strategy, and not dilute it?

 

[ahofer]

Out of curiosity, what do you consider really exceptional returns?

Wouldn't increased market impact from publicizing your strategy magnify the effectiveness of your strategy, and not dilute it?

Great questions. [and I've edited a bit to complete what I initially wrote]

Exceptional Returns
Let's presume you could put your money in a stock index fund and earn 8-10%. Exceptional returns would be well in excess of that, but there are two nuances: leverage and volatility.

So if you could earn 2X the index fund return, but your portfolio would be down 60% in 3 out of 10 yrs, would you do that? (kind of extreme, but for the point). Are you going to use the money anytime soon?

One way to generate exceptional returns is to invest in lower returning assets/strategies that can be leveraged. If you can borrow for less than the return you can magnify the return as much as your creditors will allow you to borrow. Of course, leverage increases total return volatility.

This is why investors use the Sharpe Ratio (https://www.investopedia.com/terms/s/sharperatio.asp) and/or information ratio (https://www.investopedia.com/terms/i/informationratio.asp) If either of these are high, you may generate exceptional returns. But one of the causes of the financial crisis was that banks could borrow huge amounts of money (20* their equity, roughly) and then invest in strategies/assets they though were low-vol but decent Sharpe. Then some of those strategies behaved unexpectedly...

Generally the Sharpe ratio indicates the attractiveness of an asset class (Sharpe is return per unit of risk), and an information ratio tells you the amount of performance the manager adds on top of the benchmark, so think of them as quality of returns of a benchmark and quality of returns of a strategy/manager. These lines get blurred when you have very specialized assets/strategies that can't be replicated passively (such as private equity, etc.). But any *manager's* Sharpe would include the asset class returns plus/minus their skill contribution.

But however you get it, a high Sharpe can be levered to increase returns. And the lower the volatility, likely the more leverage you'll be able to apply. So if I could trade one year Treasuries and earn an extra 0.4% per year, it wouldn't be terribly interesting without leverage. But with leverage at the cost of the one year+ say 0.05...You could multiply that 0.35% "positive float" to make it a lot more interesting. Until you were trading so much that the strategy's effectiveness was diminished. All strategies have this "capacity" limitation...

Market Impact
I imagine you are thinking that someone could tout a stock here and cause it to go up (sometimes known as pump-and-dump, depending on your post recommendation behavior). That isn't an investing strategy, it's a trade. At best it is having fun with fellow investors, at worst it is market manipulation. But the very fact of people crowding in and driving up prices is what creates capacity limitations in investing. Once the price is up, the potential returns go down. Definitionally.

Strategies are *systems*, however, designed to take advantage of inefficiency (in theory, a high Sharpe and/or information Ratio means investors are leaving return on the table by not driving the price of the asset or trade up) So if you have a *method* of trading, sort of like the fellow above, and it is high Sharpe, then telling people about it invites others in alongside you and arbitrages away your excess return. All good strategies have capacity limitations. Even asset classes do. At some point, the price of equities is too high...and then they adjust.

The most successful investors of the modern era are at Jim Simons' firm Renaissance. Their methods are a deep secret. 66%/year compounding consistently is extraordinary (it translates to 4.3% per month) and is considered the best track record known to man. And yet you see people claiming on the internet that they can make 5-10% per month**. Be *extremely* skeptical. There are such strategies around, but they usually arbitrage small effects (like promotional offers), and have capacity under $1000. Renaissance was doing it with billions. And they gave back ALL their client money in their main fund because they were already hitting capacity limits that would reduce returns. The inevitable destination for a killer strategy, if it exists, is all house money and top secret.

*since I'm a PM, the equivalent is dealers touting a strategy with a Sharpe over 5. Laughable.

 

[Tom C]

If you let others know when you are about to buy, anyone who buys before you bids the price up, raising your acquisition cost. And vice versa when you sell.

 

[amper42]

It's difficult to find a manager who can beat the S&P index on a consistent basis. Plus, they want a management fee on top of that. Personally, I'm a bit skeptical of a manager claiming to consistently offer returns way above the index. SPY is up 20% year to date. If you believe an average of 10-12% is the most you can reasonably expect then that's probably why Goldman has come out with predictions (accurate or not) of lower than normal returns in the future.

Being a long term investor in SP index funds has been successful for me. If everyone's goal is to beat the market just buying a S&P 500 ETF reduces variation from those results. I use MaxPain to help determine when to buy dips. But it's not nearly as accurate at predicting tops. I can take profit when the market is over PAIN by 6-8 points, but I have missed out on another leg up doing so. But, if I need money taking a few dollars out at all time highs isn't the worst plan - even though odds are it will go even higher.

You have to find what works best for you and what meets your comfort level. For me it's long term index and keeping eye on opportunities to add to positions on dips. It's as much of a fun hobby for me as audio. Others will say that's ridiculous you need a manager just like you need an audio sales person. Peace!

 

[blueone]

Great questions. [and I've edited a bit to complete what I initially wrote]

Exceptional Returns
Let's presume you could put your money in a stock index fund and earn 8-10%. Exceptional returns would be well in excess of that, but there are two nuances: leverage and volatility.

So if you could earn 2X the index fund return, but your portfolio would be down 60% in 3 out of 10 yrs, would you do that? (kind of extreme, but for the point). Are you going to use the money anytime soon?

I measure my own investment performance against various indices. NASDAQ100, S&P500, Dow30, Russell2000, etc., over a 5 and 10 year horizon. From a long time ago I've been invested in an actively managed growth fund, and I also compare my own choices against their's too. Like the index funds I've had down years here and there. Let's just say I have a stronger stomach for that reality than my spouse does. One tool I use to soothe our stomach aches is keeping a larger amount of cash equivalents around than advisors would normally recommend for someone like me. But peace of mind is worth something, and a lot more when you're retired. It's amazing how my investment thinking has changed once that inflation-adjusted annuity called a paycheck goes away.

One way to generate exceptional returns is to invest in lower returning assets/strategies that can be leveraged. If you can borrow for less than the return you can magnify the return as much as your creditors will allow you to borrow. Of course, leverage increases total return volatility.

No thanks.

This is why investors use the Sharpe Ratio (https://www.investopedia.com/terms/s/sharperatio.asp) and/or information ratio (https://www.investopedia.com/terms/i/informationratio.asp) If either of these are high, you may generate exceptional returns. But one of the causes of the financial crisis was that banks could borrow huge amounts of money (20* their equity, roughly) and then invest in strategies/assets they though were low-vol but decent Sharpe. Then some of those strategies behaved unexpectedly...

Generally the Sharpe ratio indicates the attractiveness of an asset class, and an information ratio tells you the amount of performance the manager adds on top of the benchmark, so think of them as quality of returns of a benchmark and quality of returns of a strategy. These lines get blurred when you have very specialized assets/strategies that can't be replicated passively (such as private equity, etc.). But the *manager's* Sharpe would include any asset class returns plus their skill contribution.

But however you get it, a high Sharpe can be levered to increase returns. And the lower the volatility, likely the more leverage you'll be able to apply. So if I could trade one year Treasuries and earn an extra 0.4% per year, it wouldn't be terribly interesting without leverage. But with leverage at the cost of the one year+ say 0.05...You could multiply that 0.35% "positive float" to make it a lot more interesting. Until you were trading so much that the strategy's effectiveness was diminished. All strategies have this "capacity" limitation...

Good pointer. I'll look into this.

Market Impact
I imagine you are thinking that someone could tout a stock here and cause it to go up (sometimes known as pump-and-dump, depending on your post recommendation behavior). That isn't an investing strategy, it's a trade. At best it is having fun with fellow investors, at worst it is market manipulation. But the very fact of people crowding in and driving up prices is what creates capacity limitations in investing. Once the price is up, the potential returns go down. Definitionally.

This is the Warren Buffett scenario. When people find out he's buying prices go up. And you can definitely see this effect on the Reddit trash cans too, I mean forums. But I never invest in meme stocks.

Strategies are *systems*, however, designed to take advantage of inefficiency (in theory, a high Sharpe and/or information Ratio means investors are leaving return on the table by not driving the price of the asset or trade up) So if you have a *method* of trading, sort of like the fellow above, and it is high Sharpe, then telling people about it invites others in alongside you and arbitrages away your excess return. All good strategies have capacity limitations. Even asset classes do. At some point, the price of equities is too high...and then they adjust.

The most successful investors of the modern era are at Jim Simons' firm Renaissance. Their methods are a deep secret. 66%/year compounding consistently is extraordinary (it translates to 4.3% per month) and is considered the best track record known to man. And yet you hear people claiming they can make 5-10% per month. Be skeptical. There are such strategies around, but they usually arbitrage small effects (like promotional offers), and have capacity under $1000. Renaissance was doing it with billions. And they gave back ALL their client money in their main fund because they were already hitting capacity limits that would reduce returns. The inevitable destination for a killer strategy, if it exists, is all house money and top secret.

I've read about Renaissance. If I gave them say, 20%, of my holdings it might be exciting, but anymore than that and I'd still be nervous. Past performance is not a perfect indicator of future returns, and all that rot.

 

[ahofer]

This is the Warren Buffett scenario.

Buffett is more complicated. He's capable of changing perceptions about an investment simply by being involved. You have to be huge (in$) or have a huge reputation to make that happen.

In the past I might say that the Saudis, Mubadallah, ADIA also had that power, but they've almost become reverse indicators of quality at this point (after WeWork and a number of big frauds like Greensill and Wirecard).

When a financial institution is failing, the value of equity can flicker between book value and nothing, and a tiny change in solvency or asset value can switch that binary outcome back and forth (this is also a feature of leverage). When an investor puts in enough to be clear of that marginal solvency change, the investment itself makes the rest worth it.

But for more normal situations, the marginal buyer just drives up prices marginally for the next person.

 

[ahofer]

No thanks.

Leverage is at the heart of every financial disaster, but I'd still answer: depends on what you are leveraging. I'm not uncomfortable with my mortgage. You could make a decent quantitative argument from history that leveraged high yield beats equities and CLO investors are quite convinced they beat equities.

The unknowns get you. Nobody thought mortgages were a problem until home values actually decreased.

 

[Chromatischism]

Strategies are *systems*, however, designed to take advantage of inefficiency (in theory, a high Sharpe and/or information Ratio means investors are leaving return on the table by not driving the price of the asset or trade up) So if you have a *method* of trading, sort of like the fellow above, and it is high Sharpe, then telling people about it invites others in alongside you and arbitrages away your excess return.

I am not questioning your knowledge, but in my observation of the last few years, that isn't how it has worked. Having others follow trade, copy trade, whatever you want to call it, has very likely magnified the effects. Especially for the first few people who get in. It's all about timing. Look no further than Wall Street Bets...

I see investing like a ladder. Figuring out where you are on the ladder is critical to determining risk vs reward.

 

[blueone]

Leverage is at the heart of every financial disaster, but I'd still answer: depends on what you are leveraging. I'm not uncomfortable with my mortgage. You could make a decent quantitative argument from history that leveraged high yield beats equities and CLO investors are quite convinced they beat equities.

The unknowns get you. Nobody thought mortgages were a problem until home values actually decreased.

I know I'm not being entirely rational by not having a mortgage and investing the money it would yield, especially when 3% and lower mortgages were common. But I grew up in relatively modest circumstances, and not having a mortgage is a source of reoccurring satisfaction. I don't know what it's precisely worth, but it's a lot, especially now that I'm retired.

 

[ahofer]

I don't know what it's precisely worth, but it's a lot, especially now that I'm retired.

Much like audio, preference and peace of mind are unquantifiable yet occasionally critical. My last house was fully paid, but then we decided to move into New York City, and my whole 6BR house in the suburbs turned into the downpayment on a 2/3BR co-op apartment.

 

[blueone]

Much like audio, preference and peace of mind are unquantifiable yet occasionally critical. My last house was fully paid, but then we decided to move into New York City, and my whole 6BR house in the suburbs turned into the downpayment on a 2/3BR co-op apartment.

Wow. You must have really needed or wanted to move to NYC. I can't imagine that myself, but I hope you've figured out how to be happy there.

 

[ahofer]

Wow. You must have really needed or wanted to move to NYC. I can't imagine that myself, but I hope you've figured out how to be happy there.

I grew up here and I generally love it. But the big thing was not commuting. They say commutes are a huge driver of unhappiness, and we were both doing it. Plus I like to go to concerts/jazz clubs in NYC, and having to go all the way back to Princeton NJ was a huge drag. This is a really fun and easy place to live if you don’t have underage kids.

And I have a weekend place in the middle of nowhere, Northwest CT to retreat to.

 

[EJ3]

I know I'm not being entirely rational by not having a mortgage and investing the money it would yield, especially when 3% and lower mortgages were common. But I grew up in relatively modest circumstances, and not having a mortgage is a source of reoccurring satisfaction. I don't know what it's precisely worth, but it's a lot, especially now that I'm retired.

If you own a place outright, then not having a mortgage is a wonderful position to be in.

 

[muslhead]

I'm in the investment management business.

A RIA?

 

[JeffS7444]

When I started this thread more than 3 years ago, I thought of myself as one of Warren Buffett's "average investors", and to date, investing most of my money into low-cost S&P index funds has worked well. Sometimes I worry that I should be doing more to justify the rewards, but the feeling soon passes.

But with feelings of success comes the risk of lifestyle creep! Lucky for me, I did much of my hifi-related YOLOing in my earlier years when I was fearless stupid about buying stuff that I couldn't actually afford on credit.

 

[ahofer]

A RIA?

Portfolio Manager. For reasons too weird and arcane to relate, part of my firm is registered but not all of it, and I straddle both worlds.

 

[EJ3]

When I started this thread more than 3 years ago, I thought of myself as one of Warren Buffett's "average investors", and to date, investing most of my money into low-cost S&P index funds has worked well. Sometimes I worry that I should be doing more to justify the rewards, but the feeling soon passes.

But with feelings of success comes the risk of lifestyle creep! Lucky for me, I did much of my hifi-related YOLOing in my earlier years when I was fearless stupid about buying stuff that I couldn't actually afford on credit.

The last time I saw that word was in relation to this:
The word was criticized for its use in conjunction with reckless behavior, most notably in a Twitter post by aspiring rapper Ervin McKinness just prior to his death, caused by driving drunk at 120 mph (190 km/h): "Drunk af going 120 drifting corners #F@#$It YOLO."
Good thing that you got away from that. It's dangerous to portfolios. And apparently just dangerous in general.