I'm writing this in hopes that the OWS movement can have a better understanding of the hedge fund industry and the financial markets.

November 30, 2011 8:57 PM

I work in Wall Street and work in hedge fund analysis. I'm the only person in my office who supports OWS.
posted by T.D. Strange (66 comments total)

He's also an anonymous Internet person and should be taken with a grain of salt. Is what he says true on its own merits?
posted by Yakuman at 9:06 PM on November 30, 2011 [4 favorites]

ʘ‿ʘ
posted by birdherder at 9:10 PM on November 30, 2011 [3 favorites]

Heh. I like the thread where they say investing in stock indexes returns about 5% a year. When I first started saving for retirement, I was told it was 11%. I expect in 10 years it'll be 2%, and when I'm 65, I'll be told I was stupid to waste my retirement savings in the stock market.
posted by dirigibleman at 9:11 PM on November 30, 2011 [31 favorites]

It's worth looking at the XKCD Chart of All the Money. Bottom right. In the trillions. The size of the derivatives market compared with, say, world GDP.
posted by twoleftfeet at 9:13 PM on November 30, 2011 [15 favorites]

Next, you lack information and exposure. You have no idea what is going on in the market besides what you see on the news

Ha, I touched on this in the "top secret" thread. Every single bit of information, earnings reports, M&A deals, are "open secrets" they are all leaked in some way shape or form. There are so many people involved on the periphery, proof-readers for the filings, facilities people who clean conference rooms, know who is in there and have access to notes left lying around, they all tell a couple people what deals they are working.It is also impossible not to overhear people in bars, or while they are waiting on line for lunch. Around this time of year if you are wearing a suit you can go to almost any upscale bar in midtown, or any bar on Stone Street, and find a drunken Christmas party full of people with loose lips. One the plus side you get to drink for free, but you have to wear a suit.
posted by Ad hominem at 9:14 PM on November 30, 2011 [3 favorites]

Everything in that post is at best only half-way accurate. I don't doubt s/he works in the hedge fund industry in some capacity, but he doesn't really seem to see things clearly. And not because it's too complex to understand. It's really not.

It really angers me that people like this are spreading their misunderstanding. It is counter-productive and inhibits those of us in the investment world that are sympathetic to the bulk of what OWS is about.

I suggest people track down Jeremy Grantham's quarterly letters. He runs a large institutional investment firm called GMO. I don't know if he has come out in support of OWS but his opinions are very much in line it.
posted by mullacc at 9:17 PM on November 30, 2011 [18 favorites]

"If you have a job in which telling the truth is impossible, you may have to change jobs. If you have a job that allows you to speak the truth, please be grateful." --Thich Nhat Hanh
posted by threeants at 9:20 PM on November 30, 2011 [20 favorites]

Once I started reading about high-volume trading computer programs, I basically realized that any personal investment in the market is at best a carny game. Any individual is getting beat in this market, and it's not even a close game. I don't think all the details in the link are 100%, but the basic point is loud and clear.
posted by Gilbert at 9:24 PM on November 30, 2011 [3 favorites]

Yeah, most of what he says is pretty straight forward. Its definitely true that you get ripped off by mutual funds, hedge funds invest in a lot of stuff and get great deals, and so on. One thing though is that even with these fees and stuff you still in theory would make money in the stock market if it ever starts going up again.

The problem though is that, last Friday the dow was at 11,231, you go back 10 years and it was around 11,000 as well.

The chart goes up and down wildly over the past decade, getting to 14000 in 2007, then down to 6600 in early 2009. So had you invested in the late 90s or middle 2000s, you wouldn't have made much money with a normal investment strategy. On the other hand if you started in 2002 or 2009 you would have.

So for basically the past 10 years or so it hasn't been true that you can just put money in the stock market and expect it to just go up. But I'm guessing most of these hedge funds are still making money.
posted by delmoi at 9:27 PM on November 30, 2011 [2 favorites]

He's right about a few things but the way he puts them together is misleading. Yes, large funds get better brokerage rates than you do. But even if the difference is 1%, all that means is that an investment you make will be worth 1% less than an investment the fund makes. If you buy those shares to hold for the long term that's all the difference there is.

If you trade frequently then sure, each time you trade you're losing 1% of your investment and after seventy trades you've lost roughly half of your investment. But why would you trade frequently? Fund managers do it because they get to charge their clients a commission every time they trade. You, as an investor, should only trade when you need to balance your portfolio or for some other cogent reason that doesn't assume you know more than a zillion fund managers hopped up on triple espressos.

When you look at the actual profitability of managed sharemarket funds you find that on average they do worse than the market. They have to - they don't have access to crystal balls, and they're charging a commission. This is why the author claims that hedge funds make lots of money from complicated derivatives and other things that normal investors can't (or won't) access. Nonsense. This is the same lie that Bernie Madoff told, and before him it was Charles Ponzi. If these sophisticated dealers are the only ones who can invest in them then on average none of them can make any money - because if one of them makes money it's because another lost money.

At the end of the day there are only two sources of wealth: production and trade. Everything else is a zero-sum game.
posted by Joe in Australia at 9:39 PM on November 30, 2011 [15 favorites]

Okay: what did he say that was wrong, mullacc? Can you clarify this? Most of what he said seemed pretty obvious to me, in general terms.
posted by zomg at 9:49 PM on November 30, 2011 [3 favorites]

So is this the part where we start to feel sorry for the poor little investment banker types? Hmmmm, I'm not feeling anything yet. Oh wait there it is......ah nope just gas. So is the fact that people with boatloads of money use it to make even more boatloads of money, at the expense of Joe Q. Public, really that controversial?
posted by AElfwine Evenstar at 9:52 PM on November 30, 2011 [1 favorite]

If these sophisticated dealers are the only ones who can invest in them then on average none of them can make any money - because if one of them makes money it's because another lost money.

What if the one who makes money gets to keep it, but the one who lost money gets reimbursed from my taxes?
posted by escabeche at 9:53 PM on November 30, 2011 [10 favorites]

delmoi, I truly hope someone else handles your finances. I tried to write a response to your comment but I just gave up. You seem to know a decent amount of things about this topic but your insights are so bizarrely wrong. You need some sort of finance psychiatrist to work out what's going on in your head.
posted by mullacc at 9:54 PM on November 30, 2011

If you're not very familiar with finance, I'd urge you to read svachalek's Reddit comment before taking this at face value. Long story short, the facts of this are largely true, but meaningless (and I'm saying that as someone broadly sympathetic to the goals of OWS).

Yes, anyone investing with huge amounts of capital will reap significant economies of scale, and yes, the vast majority of individuals are unable to invest via a hedge fund... but that's meaningless when passively managed funds tend to outperform them anyway.

This is a genuinely bad and misleading post, but I hope people are able to learn from it anyway.
posted by ripley_ at 9:56 PM on November 30, 2011 [5 favorites]

these sophisticated dealers are the only ones who can invest in them then on average none of them can make any money - because if one of them makes money it's because another lost money.

I thought his point was (at least in part) that the sophisticated dealers are making a lot of money that would otherwise be distributed slightly more fairly among all investors (i.e., distributed based on the size of investment). If the sophisticated dealers are playing a zero-sum game among themselves, then you're right, but I think they're playing a rigged game that operates to transfer wealth from the have-nots to the haves, so even the losers come out ahead. (And, as escabeche notes, if the losers lose so badly that they really come out behind, they can hit up the government to cover their asses.)
posted by spacewrench at 10:00 PM on November 30, 2011 [1 favorite]

This is a genuinely bad and misleading post, but I hope people are able to learn from it anyway.

You still haven't really stated what is wrong with the content of the fpp.
posted by AElfwine Evenstar at 10:06 PM on November 30, 2011 [1 favorite]

A dozen times what ripley_ said above. I am going to quote the comment he mentions. There are reasons to be upset at the hedge fund industry (capital gains tax treatment, outsized returns to social value, etc.), but I am not sure you be envying them as an investor:

Numbers on hedge funds are hard to find since they're not as open as retail, but everything I've read indicates that they underperform index funds over the long term. It's true that recently they have special tax treatment that might mitigate that or push them in front. But according to this, last year hedge funds averaged about +10% compared to about +15% on the S&P 500.

This year some of the major funds are doing terribly; Paulson has lost about half his clients' money, while an S&P index fund is about flat for the year.

I'll agree that you don't want to do short term trading against these guys but all indications are that short-term trading has NEVER been a good idea for the retail investor. But you also don't want to stuff your money under a mattress while inflation makes it worthless.

Make sure you get your tax savings by maxing out your 401k or IRA. If you can't do that at least make sure you collect on any matching that's available, it's an instant 50% or 100% return.

Diversify across the lowest-cost mutual funds or ETFs you can find. Make sure you have some bonds, and your stocks cover both large and small caps, domestic and foreign. Rebalance once in a while. Don't pay an advisor a percentage of your portfolio to manage it. Don't take recommendations from anyone who's selling financial products. It's your money, it's worth your time to understand how it works.
posted by blahblahblah at 10:08 PM on November 30, 2011 [7 favorites]

mullacc: Everything in that post is at best only half-way accurate. I don't doubt s/he works in the hedge fund industry in some capacity, but he doesn't really seem to see things clearly. And not because it's too complex to understand. It's really not.

Okay, but why? There are a few similar (albeit less polite) responses in the Reddit thread, but none of them actually challenge any of the points made by the Reddit OP.

In my read of it, the main points are:

1. Big Money investors are privy to special deals that are not accessible to normal investors.
2. Big Money investors are better informed than normal investors
3. Normal investors are competing against big money investors
4. This competition is unfair ("rigged"); see (1) and (2).

Where's the faulty reasoning?
posted by qxntpqbbbqxl at 10:09 PM on November 30, 2011

This guy could not be more wrong in his essential points.

First, and foremost -- it's like he's never heard of Franklin, PIMCO, or Blackstone, Fidelity, or any of the other powerhouse asset managers who directly serve the 99% via their mutual funds and asset management services. Far from being the victims of hedge funds, they are stock full of insanely smart people and have all the best technology, most sophisticated strategies and get all the finest treatment in terms of analysis, new deal access and cheaper trading costs that most hedge funds could only dream of.

Second, even when you get down to hedge funds --- the 99% are far better represented among hedge fund clients than the 0.1%, as the 99% are the funders and/or beneficiaries of the pension funds, endowments, and other large institutional investors who are the core clients of hedge funds (and private equity funds, and venture capital funds, etc.)
posted by MattD at 10:11 PM on November 30, 2011 [7 favorites]

AElfwine Evenstar You still haven't really stated what is wrong with the content of the fpp.

qxntpqbbbqxl Where's the faulty reasoning?

The problem/faulty reasoning is threefold:

1) Hedge funds ultimately don't do that well for the rich people who invest in them directly (though they are good at making money for hedge fund managers). Yes, they have lots of extra data. Yes, they have tax advantages. But ultimately, they don't produce higher long-term returns in any predictable sense over any length of time.

2) The little guy is not getting cut out of the option to invest in these sorts of vehicles. Many pension funds and mutual funds directly invest in hedge funds, private equity, and other assets, and they have lots of smart people working for them as well. Most of them take the mission of trying to serve their "little guy" clients very seriously (see, for example, Vanguard).

3) If you invest the way that every bit of research suggests that you should - diversified investments in mutual funds and ETFs with very low costs - and you don't move your money a lot, you will generally do as well, or better, than many hedge funds, and the advantages hedge funds have (researchers, access, lower trading costs) will be irrelevant, since they don't work in the long term.

So, while hedge funds do have lots of advantages, ultimately the only way to consistently make money from them is to manage a hedge fund or be a diversified investor.

Now, this ignores the fact that many, many people in the US have no savings or pension plans. They are also be screwed over by the financial system, which is not good to the underbanked. But the small investor alarms the FPP sets up are just off base.
posted by blahblahblah at 10:19 PM on November 30, 2011 [9 favorites]

Okay: what did he say that was wrong, mullacc? Can you clarify this?

There are dozens of things of things that are incorrect or misleading. To correct and clarify this particular post I'd have to a) point out errors and provide citation, b) explain why these errors are important, c) explain why you shouldn't be mad about things he's mad about and d) explain what you should be mad about. I don't have the time or the authority to do this in a convincing way.

Just for kicks I'll point out things I thought were wrong or misleading in the first couple paragraphs:

These guys are basically the vehicles of choice for ultra-rich people to get into the financial markets, besides family offices and private wealth managers.

I don't think high net worth individuals account for very much of the total assets in hedge funds. It's dominated by large institutions. The phrase "besides family offices and private wealth managers" is really weird--he makes it sound like those are alternatives to hedge funds. That's obviously not the case. So in the first sentence I already think this guy doesn't really understand his own industry.

What are hedge funds? They are funds that have a 1-5 million deposit minimum, cater to the mega-rich, and can invest in anything without regulatory restrictions, use leverage to pump up their exposure by 15x...

Not all assets can be leveraged 15x and not all hedge funds use leverage or invest in exotic instruments. And why is 15x the number to cite? For some assets and with derivatives the implied leverage is much higher. Again, just struck me as a weird thing to say.

...and pretty much eat up a vast majority of the industry's profits.

What does this even mean? Any of the interpretations I can imagine are absurd.

Now a little further along:

Mutual fund managers taking a cut - an annual % cut, as well as a % per profit cut. If these managers (i.e. pension plans) invest in another fund, that fund is also taking another % cut. You're down 2% the minute you invest your money.

This is completely wrong. When he says "these managers" does that refer to the mutual fund managers in the previous sentence? It reads that way but that doesn't make any sense. Also, mutual funds almost never earn a performance incentive fee (which actually is a bad thing in my mind, but that's a whole other topic).

Furthermore, you have absolutely no chance in terms of access to the best services. Hedge funds have a direct line to investment bank's institutional brokerage teams -

Sure you have access to these services. The same institutional brokerage teams that talk to hedge funds also talk to mutual funds and other institutional investors. Hedge funds aren't getting any better information from investment banks than other types of investors (unless they get it illegally).

This means that while you're buying stocks and bonds, hedge funds are getting special rights, warrants, sweetheart deals, private placement deals, in-the-money options, bigger discounts on bonds, and much better bulk commission rates and lower spreads on stocks.

None of these things are exclusive to hedge funds. Also, I don't think he knows what an in-the-money option is. He definitely doesn't know anything about rights offerings or warrants.

Etc, etc, etc. In conclusion, this post is a bad way to start a discussion.
posted by mullacc at 10:36 PM on November 30, 2011 [8 favorites]

Etc, etc, etc. In conclusion, this post is a bad way to start a discussion.

Hey now I'm learning something. So while it may be a bad way to start a discussion there's always a way to turn it around.

Also, I was just reading these. I don't know how authoritative they are, but maybe someone who knows more than I do could chime in.
posted by AElfwine Evenstar at 10:47 PM on November 30, 2011

Oh and just to vent...index funds are a good thing to have around in a limited way. But the way they're taking over is going to lead to more and more problems. The thing people don't think about is that when ETFs are the biggest shareholders in every company it means that something like half a dozen big firms (Blackrock, State Street, Vanguard, Invesco) are responsible for corporate governance for thousands of companies. And they govern just like they invest--passively. I'm obviously biased, but I think it's worth 1% or so in fees to have thousands of mutual fund and pension managers with time and resources to do more fundamental analysis. For one thing, it would make "say on pay" legislation work better.
posted by mullacc at 10:48 PM on November 30, 2011 [4 favorites]

First, and foremost -- it's like he's never heard of Franklin, PIMCO, or Blackstone, Fidelity, or any of the other powerhouse asset managers who directly serve the 99% via their mutual funds and asset management services.

Well, they certainly take their money, and then turn around and invest it in companies which then lobby against the interest of their investors. They problem is there are so many layers in between the actual investor, who usually doesn't even have a choice and the people who actually decide what to do with it that there's no accountability whatsoever.

That's not something this guy is talking about, but it is an issue.
posted by delmoi at 10:48 PM on November 30, 2011

the 99% are far better represented among hedge fund clients than the 0.1%, as the 99% are the funders and/or beneficiaries of the pension funds, endowments, and other large institutional investors who are the core clients of hedge funds (and private equity funds, and venture capital funds, etc.)

Is this really true? Because it doesn't jive with the idea that the top 1% has 43% of the financial wealth.
posted by psycho-alchemy at 11:00 PM on November 30, 2011 [1 favorite]

So many of the complaints surrounding OWS resort to the "cushiness", 'middle class' nature of the lives of (what I call) stereotypes and caricatures of "supporters" of the cause. I am not advocating these positions, but, if we take them as "given"... woah, soft power diplomacy time. How untrue are those lines that seem to be all over the media?

Has anyone written something like a manifesto, or guidebook, cheatcode manual on how a massed organization of individuals (such as the tentacles of OWS in many cities) could invest to strategically take over, say, all the companies in a district, or in a town, or something like that? Creating model towns across the nation seems like a pretty worthy (not novel though) idea. Or something explaining how the same tactic of strategic investment, Citizens hostile takeover, if you will, Chavez uses the apparatus of State to do this, as have countless examples (in the West, for one example, car factories were converted to making Warplanes in a week) Citizens;United Indeed is what I am saying, could be used to 'behaviorally modify' a corporation that is really large, and severely impacting people negatively (like Foxconn, or companies employing the more vicious tactics seen at near border Maquiladoras, or one of the banks, and then split it up, or internally impose a Glass–Steagall Act analogue, or alter it to mimic the best elements of the Credit Unions, or something like Target, to target their financial assistance towards opposition of civil rights). Is there a list that details "what is needed to gain a majority voting share in _____CompanyX?

People often repeat, "If you don't like their behavior, modify it by not purchasing their products"... tomorrows battle cry could be "If you don't like their behavior, and not buying their products is seemingly having no impact, there is room for someone charismatic, well spoken to say "read my newsletter, and join my Union to buy all the things!", (in the highly competitive cutthroat world of "causes intending to do good") Buy Nothing day will have nothing on this idea. We can change the obsession with Consumption later; today we can make sure that public businesses operate ethically, and, with the labour of effort, sustainably, rather than operating as predators, ready to eat employees, consumers and bystanders in the Roller-Derby Knife Fight For Profit that is the two headed hydra of Neo-Liberalism, and Modern'Scientific'Capitalism (both of which fall apart because they make critical errors in confusing accuracy with precision [yes, the derivative junk bond market "statistically" was known to bring in huge profit, and return, but it was quite evident to many non-invested observers that such was inaccurate, it was well known to be a bubble, many people had called it a house of cards long before the ultimate collapse. Neo-liberalism, meanwhile, hyper-precisely points to where "Neo-Liberalism" has "succeeded"... while inaccurately describing the nastiness and oppression that it took for those few wealthy shining star, exemplar "Free", 'Western Liberal Democratic' nations to become as prestigious as they are (Russia, Canada, and The United States each meticulously massacred their respective Indigenous populations, each created projects of continual discrimination which last to this very day; in order to reach their so called heights of global standing and respected legitimacy [Canada is seen not as helpful little Joe Canadian today, but rather as a prime Obstructionist Appeaser in the world as will be impacted by climate change, Canadian Obstructionism and Anti-Science position are already coming out as talking points; "Canada expects the coming negotiations to fail").

I hope I didn't just accidentally the whole Marxism.
posted by infinite intimation at 11:04 PM on November 30, 2011 [4 favorites]

Is this really true? Because it doesn't jive with the idea that the top 1% has 43% of the financial wealth.

Hedge funds represent a small fraction of the global financial sector, so yeah.
posted by AElfwine Evenstar at 11:05 PM on November 30, 2011 [1 favorite]

Jibe, meaning "agree with". Away with your popular dance styles of the '40s and '50s.
posted by Wolof at 11:09 PM on November 30, 2011

...the author claims that hedge funds make lots of money from complicated derivatives and other things that normal investors can't (or won't) access. Nonsense.
...1. Big Money investors are privy to special deals that are not accessible to normal investors.

Regarding this one point, there are indeed federal and state laws in the US restricting certain kinds of investments to Qualified Investors, Qualified Purchasers, and other similar legal terms. These investment laws apply to most derivatives and the kind of "sophisticated" exotic instruments that are heavily favored by hedge funds.

These laws arose from the aftermath of previous scams and bubbles, and are a reflection of the fact that exotic instruments have less regulatory oversight, registration requirements, and reporting requirements than the more heavily regulated markets like stocks. If non-qualified ("ordinary") persons somehow manage to [directly] invest in, say, a super-senior tranche of a synthetic CDO, and end up losing their investment, they can and have taken the broker(s) to court and sued for misrepresenting the risks and claiming that they weren't provided enough information to fully understand what they were doing.

The courts overwhelmingly supported nonqualified investors such cases; the flip side is that qualified investors receive no such legal protections. I'm neither a lawyer nor a broker and don't have access to the exact regulations right now, but Qualified Investor status requires at least a $200k yearly income or $5M net worth (or both)¹, Qualified Purchaser requirements are even higher, and legal limits seem to increase every few years. If you have the applicable Qualified distinction, the law basically grants that you have sufficient resources to be held responsible for informing yourself about all aspects of the financial dealings you enter into. Many instruments are restricted by law to only be sold to Qualified individuals (or corporate persons) and even if they weren't, most hedge funds won't deal with anyone else except Qualified investors because of the reduced legal headaches when losses happen. Even Qualified individuals are still protected from outright fraud, of course, but that is tough to prove even in extreme Madhoff cases.

Now it's true that as an individual you can still put money into a 401(k), or pension fund, or asset management company which in turn may be managed by someone who decides to invest part of the combined fund total with a hedge fund; so in theory an individual can still benefit indirectly from these sorts of instruments, they just can't invest in them directly. And it's also true that exotic bets don't reliably pay off, especially in the long term. I'm just pointing out that there do exist special rules for high net worth individuals, which may be what set off this guy in the first place.

¹ I don't have the regulations for the official figures, but I've seen these amounts quoted from several independent sources. Some say $2.5 million net worth and $1M annual income. Some say $10M net worth and no income. The general principle is that anyone with a high net worth is presumed to demonstrably know a thing or two about wealth management.
posted by ceribus peribus at 11:13 PM on November 30, 2011 [2 favorites]

Yes, anyone investing with huge amounts of capital will reap significant economies of scale, and yes, the vast majority of individuals are unable to invest via a hedge fund... but that's meaningless when passively managed funds tend to outperform them anyway.

So hedge fund managers bank massive fees while producing nothing of value and just create the illusion of performance by taking random walks with their clients' money?

I've heard that stocks have supposedly outperformed every other asset class over every twenty year period since the great depression (that's probably not the exact figure). But there's no guarantee that will always be the case - it certainly wasn't the case in Japan from the early 90s to today, from what I understand. Even today, the market is still very overvalued - P/E ratios are still way above historical levels.

I put my retirement money in a 401k Roth and get a decent match from my company. I put it all into a vanguard target retirement fund because I basically don't know what else to do with it. I expect any growth I get over the next ten to come from dividends, not from asset appreciation.
posted by heathkit at 11:25 PM on November 30, 2011

delmoi, I truly hope someone else handles your finances. I tried to write a response to your comment but I just gave up. You seem to know a decent amount of things about this topic but your insights are so bizarrely wrong. You need some sort of finance psychiatrist to work out what's going on in your head.

Wow, you do a great job of claiming people don't know what they're talking about without bothering actually point out what's wrong about them.

It's possible I might be misinformed about the inner workings of the financial system, it's only something I read about for fun. But the only thing I put in my comment were numbers from the DOW over the past decade. Look at the chart, it doesn't actually go anywhere.

I've heard that stocks have supposedly outperformed every other asset class over every twenty year period since the great depression (that's probably not the exact figure)

Yeah, they used to say ever 10 years, before 2008 anyway, which whipped out all the gains of the past decade.
posted by delmoi at 11:57 PM on November 30, 2011

Heathkit wrote: So hedge fund managers bank massive fees while producing nothing of value and just create the illusion of performance by taking random walks with their clients' money?

That's a bit unfair. Are their lives not of value? Do the arts and cultural events they support have no value? What about the theatre and drama that permeates their very existence? Other than that I suppose there's some amount of value in the fact that they do the day-to-day work of buying and selling shares and processing dividends and so forth.

Anyway, if fund managers could genuinely add value in a reproducible way they would concentrate their efforts on managing a single fund. By having many funds they increase the chance that they can point to a highly-successful fund and either disguise or close down poorly-performing ones. I recall seeing an analysis of 31 Australian funds in which the reviewer (in all apparent seriousness) recommended one particular fund - because it had outperformed the others for five years straight. The fact that this is precisely what would be expected by chance seemed to have escaped him.
posted by Joe in Australia at 12:02 AM on December 1, 2011 [2 favorites]

Delmoi: you need to take into account that people generally invest money over time, not all at once. They effectively buy more shares for the same money when the market is down, which makes up for the higher prices when the market is up. So a hypothetical investor who invested the same amount at the end of every year starting in 2002 would have actually made a cumulative profit of around 2.2% per annum (if my very rough calculations are right). It's not much, but it's better than someone who invested in residential property.
posted by Joe in Australia at 12:21 AM on December 1, 2011

So a hypothetical investor who invested the same amount at the end of every year starting in 2002 would have actually made a cumulative profit of around 2.2% per annum

So, I was 10 years early...
posted by dirigibleman at 12:29 AM on December 1, 2011

Margin Call (2011)

Seth: Shit, this is really going to affect people.

Will: Yeah, it's going to affect people like me.

Seth: No, no. Real people.

Will: Jesus, Seth. If you really want to do this with your life you have to believe that you're necessary, and you are. People want to live like this with their cars and their big fucking houses they can't even pay for - then you're necessary.

The only reason that they get to continue living like kings is because we've got our fingers on the scales and we're tipping in their favor. I take my hand off, well then the whole world gets really fucking fair really fucking quick and nobody actually wants that.

They say they do, but they really don't. They want what we have to give them but they also want to play innocent and pretend they have no idea where it actually came from; and that's more hypocrisy than I'm willing to swallow, so fuck 'em.

Fuck normal people. The funny thing is that if tomorrow goes tits up, they're going to crucify us for being too reckless. But if we're wrong, then the same people are going to laugh until this piss their pants because we're going to look like the biggest pussies God ever let through the door.

Seth: You think we're going to be wrong?

Will: Nah, they're all fucked.
posted by nickrussell at 12:52 AM on December 1, 2011 [3 favorites]

For those not familiar with the vagaries of financial instruments, one learning outcome of this discussion is the sheer complexity of variables involved. That, in addition to the fact that perfect knowledge about combinations and permutations of both internal and external variables is essentially what the higher-level strata of the financial sector is all about gaining advantageous access to, for the purpose of profit. (the latter being both those who can afford access to privately hedge their wealth in unique ways, AND those who don't have those options).

A lot of work has been performed, and is ongoing that eventually results in real world application in the financial markets. To say this stuff is complex is an understatement.

It's important to know that these things are incredibly complex, and important to know that effective deployment of advantage in the marketplace requires access to public policy makers.

Rather than go on about the details and complexities involved we need to understand that that access is purchased. Thus, the choke point - i.e. we need to STOP monied access to policy making.

This is going to be an incredibly difficult challenge, for many reasons, not the least of which is that financial wealth is THE defining factor for status in our culture. I don't know how to change that; drives for status are wired into our species. Yet, from a practical point of view, stopping the flow of money to policy makers would create an opportunity for a truly Open society, unlocking the cultural and intellectual and social diversity that is the fabric of societal longevity, and social sustainability.

We have to get money out of politics, or the opaqueness of these systems, understood by an elite, will enable long-term social stratification that weakens the America, and its people.
posted by Vibrissae at 1:24 AM on December 1, 2011 [4 favorites]

Sorry dude, you're still going against the fucking wall.
See also "we are the 99.9%"
posted by fullerine at 1:54 AM on December 1, 2011

Well, I'm impressed with MeFi. The Reddit thread was half-way through the top 200 comments before the sane voices began to make themselves heard. In this thread, the first comment was appropriately skeptical of a crowd-pleasing rant by an poster of unknown credentials, and people who know the score better than the Reddit mystery poster began to show up by comment 6. Well-played, MeFi.
posted by Slithy_Tove at 2:09 AM on December 1, 2011 [3 favorites]

It's worth looking at the XKCD Chart of All the Money. Bottom right. In the trillions. The size of the derivatives market compared with, say, world GDP.

Notional is not the same as open interest. Derivatives have their uses but need to be handled with care, because there is a reasonable chance the selling it knows more than you or is smarter... is GDP bigger or smaller than the money spent on products in the economy?

Doesn't that seem like a sensible approach to buying anything?

The anonymous Internet person is superficial. He's right about the 0.1% though, most of teh 1% just go to work, work pretty hard, and are cogs. Priveledged cogs, we can agree, but most have worked pretty damn hard to get there. We can discuss whether the system shoud reward hard work another day.

I believe the 99 - 99.9% would actually prefer if the 0.1% paid some tax too. The 0.1% have enough that the live outside the remit of local governments, and don't generally go to work, or give a cr*p what some people think, they are on a yacht, somewhere sunny, or in a chalet, somewhere snowy.

Occupy Aspen would make a hell of a lot more sense imho - not that they'll see you there, they'll be too busy heli-skiing
posted by fistynuts at 3:16 AM on December 1, 2011

What this article misses out is that the average retail investor has a massive, massive advantage over a hedge fund trader: time.

If your investing time horizon is long term rather than focused on making profits this year or even this quarter above all else, then you should use that to your advantage. Trying to beat hedge funds at their own game is pretty much pointless, but why should you care when you have an investing timescale measured in decades?
posted by pharm at 4:23 AM on December 1, 2011 [2 favorites]

Wow, you do a great job of claiming people don't know what they're talking about without bothering actually point out what's wrong about them...It's possible I might be misinformed about the inner workings of the financial system...

Your wrongness has nothing to do with the inner workings of the financial system. You've taken the wrong set of data, measured it in various inappropriate ways and then compared it to things that are only tangentially related.

It's like you're trying to build a house by going into the forest and hitting things with the claw-end of a hammer. Yes, wood and hammers are both elements involved in building a house, but your methods are so bizarrely wrong that it's not worth correcting. You need to put the hammer down and try not to hurt yourself.
posted by mullacc at 6:16 AM on December 1, 2011 [7 favorites]

Pharm's comment is probably the best bit of general advice on how to beat the financial services industry at its own game anyone can possibly give you. Arbitrage time.
posted by JPD at 6:19 AM on December 1, 2011 [1 favorite]

Some years ago, before Obama was elected, I was taking the train from NYC to DC. I got to talking next to the guy sitting next to me. He was in finance and was pretty unhappy with his job: according to him, yes he made tons of cash for himself and for others, but he felt the whole business was very empty and was thinking about getting out. I played devil's advocate, asking him if at least didn't they create a more efficient market or something. He said no, they didn't even accomplish that.
posted by exogenous at 6:19 AM on December 1, 2011

So says the first-year analyst on wall street. He is nominally right in that hedge funds have an advantage, but implying that a casino offers better odds than the market is pure hyperbole.
posted by dgran at 6:23 AM on December 1, 2011

The thing people don't think about is that when ETFs are the biggest shareholders in every company it means that something like half a dozen big firms (Blackrock, State Street, Vanguard, Invesco) are responsible for corporate governance for thousands of companies. And they govern just like they invest--passively.

That could probably be remedied -- to a certain extent -- by having some sort of pass-through system that allowed retail investors to vote the shares that they hold via their ETF shares.

E.g., if I hold $100k worth of some fund which has a market cap of ~$450 billion and holds 43 million shares of Exxon Mobil,* then I should be able to vote on behalf of 96 or so shares of Exxon-Mobil, if I choose.

Not that I think it would make a huge amount of difference most days -- in general I suspect that most investors wouldn't bother to vote even if they had the ability to. But perhaps in occasional cases here and there, or if there was a particularly good advertising campaign encouraging investors to vote on a particular issue, it might become important.

Obviously, having to manage votes would increase the overhead of the ETFs a bit, but if it were required across the board as a matter of policy, then it wouldn't make any particular fund any less competitive than any other.

* Note that I didn't just invent these numbers; they're approximately the market cap and holdings of the Vanguard 500 S&P index fund.
posted by Kadin2048 at 7:27 AM on December 1, 2011

The problem though is that, last Friday the dow was at 11,231, you go back 10 years and it was around 11,000 as well.

If somebody invested $1,000/mo into a dow jones index fund starting 10 years ago, they would've invested $120,000 total. Today they'd have ~$160,000, a 2.9% return despite direct exposure to some of the biggest calamities of the '00s.

Part of this is due to dollar cost averaging, part of it is because the DJIA doesn't cover dividend payments, and part of it is just because the DJIA is an incredibly flawed financial metric that tells you almost nothing about the value of the underlying assets.
posted by grudgebgon at 7:41 AM on December 1, 2011 [4 favorites]

One memory particularly troubles Theckston. He says that some account executives earned a commission seven times higher from subprime loans, rather than prime mortgages. So they looked for less savvy borrowers — those with less education, without previous mortgage experience, or without fluent English — and nudged them toward subprime loans.

These less savvy borrowers were disproportionately blacks and Latinos, he said, and they ended up paying a higher rate so that they were more likely to lose their homes. Senior executives seemed aware of this racial mismatch, he recalled, and frantically tried to cover it up.

A Banker Speaks, With Regret.

The 'better odds at the casino' refers, I think, to the chances of the average investor when placed against a 'house' consisting of massive firms with piles of well-paid analysts and trading algorithms. And in that Kristof piece I linked, you can explicitly see how executives exploited poorer minorities to keep their bubbles inflated and their bonuses high.
posted by kaibutsu at 7:45 AM on December 1, 2011 [1 favorite]

grudgebgon: Does that investment scheme include brokerage and other fees or differences between sell and ask prices? One wonders....
posted by kaibutsu at 7:48 AM on December 1, 2011

If somebody invested $1,000/mo into a dow jones index fund starting 10 years ago, they would've invested $120,000 total. Today they'd have ~$160,000, a 2.9% return despite direct exposure to some of the biggest calamities of the '00s.

Maybe I'm doing this wrong but when I inputted $120,000 into an inflation calculator (link) and set the initial year as 2001 and the final year as 2011, the program spit out the following "What cost $120000 in 2001 would cost $148027.92 in 2010."

Now, I understand that in your example, you aren't investing all that money in first year, but I feel like there is something not completely clear about the value you end up with, but it could just be my misunderstanding of the math.
posted by Hypnotic Chick at 7:52 AM on December 1, 2011

how big exactly do you think bid-ask spreads are on Dow components? Or highly liquid ETFs?

Brokerage fees? a schwab trade is what $ 8 bucks?
posted by JPD at 7:53 AM on December 1, 2011 [1 favorite]

Now, I understand that in your example, you aren't investing all that money in first year, but I feel like there is something not completely clear about the value you end up with, but it could just be my misunderstanding of the math.


you are sort of on the right path, but you need to look at inflation versus all of the cashflows, i.e. PV of a 2000 dollar is different from a 2005 dollar.

so your analysis will end up not looking as bad as it currently does, but yes equity returns have been terrible this century, of course the prior 25 years or so offered tremendous returns. You need to look at it in that context.
posted by JPD at 7:57 AM on December 1, 2011 [1 favorite]

'Commission' was the more appropriate word than 'brokerage fees.' I'm still pre-coffee.
from the admittedly heavily lambasted article:
"First, you are paying exorbitant fees. Commissions on every stock trade. Mutual fund managers taking a cut - an annual % cut, as well as a % per profit cut. If these managers (i.e. pension plans) invest in another fund, that fund is also taking another % cut. You're down 2% the minute you invest your money.

"Next, if you're doing the investing yourself, you're paying ridiculous spreads. The bid/ask spread of a stock will cause you to be down another 2-3% the minute you buy the stock. For example, if you're buying a share of company at $4.25, you can sell back at only $4.15."

So how common are commissions, how big are they, and how big are bid/ask spreads? These weigh heavily on that 2.9% return.
posted by kaibutsu at 8:00 AM on December 1, 2011

Hypnotic Chick / kaibutsu:

I came up with the figure by using a DJIA-based exchange traded fund as a proxy, and I assumed that the investor would invest a fixed amount monthly, and would reinvest any dividends. The gains are inclusive of fees.

The bid/ask spread is immaterial to nearly all retail investors, and was extremely overblown in that rant. For the ETF I used as a DJIA proxy, the bid/ask spread would reduce your overall net gains by (and I'm not joking) about $5 total.

The claim that bid/ask eats 3% is just nonsense, if it was true, Apple would have an $11.00 spread; at this exact moment, it has a $0.04 cent spread.
posted by grudgebgon at 8:21 AM on December 1, 2011 [2 favorites]

commissions essentially are brokerage fees unless you are dumb enough to buy load mutual funds.

As Mullacc tried to point out above most Mutual Funds take a straight % of assets but do not receive performance fees. Now, most of the argument for Passive Funds (where I actually disagree with him re: the downsides are outweighed by the lower costs) is because these fees on active funds are too high - especially for commoditized asset classes like US Large Cap. Fees for a traditional actively managed fund will typically be something like 1.5%-1% per annum. If you own those funds via a defined benefit pension plan, or even a 401k provider the fees can generally be half that. If you are buying passive funds or ETFs the fees are much lower - generally <.25% - partially because you give up the value of the stock lending income to the manager.

And yes Fund of Funds (i.e. a fund that invests in other funds) are generally a terrible terrible deal unless that FoF manager has access to fund manager you do not or is better at manager selection than you are. Honestly, I don't really think either of those things are ever true enough to warrant the fees, but in most cases anyway the average investor does not qualify to buy a FoF. Now there is also something called a subadvised fund - where the company that markets and handles the ops side of a mutual fund hires an investment manager - but in those cases the actual fee structure is the same as the actively managed funds I was talking about above.

Spreads - honestly this is truly laughable. The market makers and the cash equities businesses - i.e. the guys who profit from spreads and straight commissions are as businesses pretty much dying. Spreads have shrunk over the last ten years as more and more people enter the market. When people talk about who the HFT are taking money from its usually the market makers.

Secondly spreads shouldn't really matter to you if are buying something long-term. You get a price you are willing to buy at and a price you are willing to sell at. Simple. If the stock is illiquid enough that you can push it by trading it use limit orders and be patient.

But to answer your question - just as an example - at this moment the bid-ask of 3M - a Dow component is .01 cent on an 80 dollar stock. MSFT - .01. HPQ - .01. Hell CSS a company that has traded all of 3000 shares this morning only has a bid-ask of .13 cents on a 20 dollar share price - and most institutional money managers consider it too illiquid to buy.
posted by JPD at 8:25 AM on December 1, 2011

Secret Fed Loans Gave Banks $13 Billion
posted by exogenous at 9:41 AM on December 1, 2011 [3 favorites]

Spreads have shrunk over the last ten years as more and more people enter the market.

Also, spreads narrowed sharply after the markets converted from pricing in fractions to pricing in decimals.
posted by malocchio at 9:42 AM on December 1, 2011 [2 favorites]

If somebody invested $1,000/mo into a dow jones index fund starting 10 years ago, they would've invested $120,000 total. Today they'd have ~$160,000, a 2.9% return despite direct exposure to some of the biggest calamities of the '00s.

This is what I'm talking about though. There's some disagreement over whether the exact number is 2.2% or 2.9%, but for the sake of argument lets assume it's 2.5%. That's pathetic. Even with interest rates in the tank today, I can get CDs with a guaranteed 2.2% for four years.

The retirement calculators start with a default return of 7% . We've established that someone who did everything right and saved for retirement in a low-fee index fund only made, at most, 2.9% over the past decade. They've got 20 years left - how good is the market going to have to do over that period to get them to their goal?

Given the current state of the economy (record unemployment, anemic growth), does anyone seriously think we'll see better returns over the next decade? Strong enough growth to offset the meager returns of this decade?

Playing with the numbers, it seems like I could get by with 4% growth over the life of my savings, but only if social security remains untouched. The 6-7% I would need if social security does get cut seems completely unreasonable, at least if I only invest in index funds.

And this isn't even taking into account volatility, which has been insane over the past 10 years. How much your nest egg is worth seems to depend very strongly on when you exit the market and move to more stable, lower yield investments.

I guess my biggest frustration is, looking around, I don't see any good investments - just bets.
posted by heathkit at 11:10 AM on December 1, 2011 [2 favorites]

I don't see any good investments - just bets

what does this mean exactly? What is a bet?

And yes returns this decade have been terrible, but that's an outlier, and its because returns were so good in the prior decade. Real returns during the 90's on the S&P 500 were 14.7%, nominal returns were 18%.

Look at rolling 30 year returns and you would argue the odds are exceedingly low that the last ten years will be predictive of the future, just like the ten years prior to that were not predictive of the future.

This is a really good graph of returns by time period for the S&P - even if it is from a sort of questionable fund manager. (PDF warning)

If you believe that in general risk= returns, and that equities are riskier then other asset choices, you have to believe that equities are where you should be invested for the long-term. Its not even an empirical issue, its logic.
posted by JPD at 11:24 AM on December 1, 2011 [2 favorites]

Given the current state of the economy (record unemployment, anemic growth), does anyone seriously think we'll see better returns over the next decade? Strong enough growth to offset the meager returns of this decade?



Actually returns are not correlated with growth. The price you buy the cashflows at almost always trumps the rate at which the cashflows will grow at, even if the cashflows end up growing faster than expected.
posted by JPD at 11:26 AM on December 1, 2011 [1 favorite]

Ok I read all that, and now I know less than when I started. Seems like keeping things confusing and obscure and "you don't understand" very much suits the needs of the very few people who really control the money in the markets. I am now more convinced of the essential verity of the Reddit poster's screed than I was before. It's a conspiracy, the game is fixed, and the people are not invited to be on the winning side. This is nothing new.
posted by zomg at 12:37 PM on December 1, 2011

what is confusing to you. Honest question. I really am trying to explain things and if you don't understand something that's my fault, not some effort to obsfucate the truth.
posted by JPD at 12:43 PM on December 1, 2011

and yes the game is designed to take as big a piece of your savings that is allowed as payment for the transactions required by the investment process, but if you listen to what most of us posting here we are trying to tell you, then you won't get screwed..
posted by JPD at 12:45 PM on December 1, 2011

Yours are fine, JPD. Sorry, didn't mean to paint all posts in this thread with the same brush. In retrospect, bad comment on my part.
posted by zomg at 1:24 PM on December 1, 2011

what does this mean exactly? What is a bet?

By bet, I mean a zero-sum transaction in which one party wins at the expense of the other, and the outcome is determined largely by chance.

I get some dividends from my fund, which is nice, but it looks like for any real growth I have to expect that some greater fool will come along at some point and want to be more invested in the market as a whole than I am.

I guess that's what bothers me. If we all put our retirement money in index funds, what are we investing in, exactly? Aren't we just driving up the prices of stocks as a whole? I'm just a natural contrarian - it bothers me to be following the "common sense". Common sense used to be that housing prices never go down - why should I think the same about stocks?

Also, I don't buy that greater risk equals greater returns. In a perfect market, where everyone had perfect information, I suppose one could expect that to be the case. However, in my experience they're weakly correlated at best.

Thanks for trying to talk me down JPD - that chart is helpful. However it only goes back to 1970. I'm sure if it went back to the 50s it would probably look roughly the same, maybe better. But if you're talking about timescales of 70 years at the most, how can any given 10 year period be predictive of the future? That's just an appallingly small sample size.

Have stocks performed similarly in the US as they have in other countries? My guess would be no, and that maybe the uniquely dominant position the US occupied in the 20th century has skewed the numbers.
posted by heathkit at 6:27 PM on December 1, 2011 [1 favorite]

This massive PDF has data for global markets going back 100 years. The important table to answer your question is Figure 4 on page 8 is Equity Risk Premium = Equity Return - Government Debt Return. US about 1% greater than the rest of the world. Given the devastation form WWII, this sort of makes sense. Sweden which is a developed economy in Europe not destroyed by War is actually slightly higher than the US.

If you think the stock market is purely a greater fools game rather than being reflective of the present value of cashflows, and that risk and reward don't correlate in the long-run (despite all of the evidence I've given you and reams of other empirical evidence that is out ther), then there isn't much to argue. Though I wouldn't really describe that as being contrarian.

The point about the conventional wisdom surrounding equity returns and home prices is well taken. Why don't you consider what the intellectual argument is for Equity Returns as a function of Real Interest rates and compare that with the intellectual argument for "Home Prices don't decline." There is an argument for equities, there was never one for Home Prices, or phrased properly - why home prices didn't include a tradeoff between risk and return
posted by JPD at 6:49 PM on December 1, 2011