Money management

The money management business is a great business. People are making millions of dollars. How do they do it? It is based on the principle that a money manager takes control of someone else’s assets and invests it for them. It is really a simple concept. Accumulate enough assets from other people and invest it for them. In return, the money manager almost always takes a percentage of the managed assets regardless of how much the manager returns on the assets. The cut is taken even if the money manager loses money for his clients. The cut can range in amount. I think that 1% of the assets as a fee is common. Sometimes clients find someone who will manage their money for as low as 0.25%. Other times so called famous hedge fund investors take 2% of assets plus 20% of the profits; this is the common fee structure that venture capitalists use. There are some money managers that offer other financial services such as estate planning so there can be some benefits to hiring a financial advisor.

So how can money managers get rich?

  1. They try to accumulate as much money to manager as possible. If someone is taking a 1% annual fee then they will try to get as much AUM (assets under management) as possible. If someone can manage $100M then they will generate $1M per year in fees.
  2. They need to sound like they know what they are doing. Being a smooth talker certainly helps because, after all, they must convince someone to hand over their hard earned money. The key is to convince someone of 2 things: First, they must appear to be completely honest and trustworthy. No one wants to end up in a Bernie Madoff like situation where they get scammed out of their assets. If someone is part of a large firm like Morgan Stanley, Wells Fargo, Fidelity, or Blackrock then people will tend to feel comfort and safety. Another way to convey trust is word of mouth; if a person’s friend recommends a certain money manager then they will be more likely to trust that person. The second thing they need to do is to convince clients that they know what they are doing and that they can get good returns.

There are reasons why this money management industry is so large. As a country, the United States is quite financially illiterate. I read somewhere that 75% of Americans don’t know what a trillion is. Sure, most people don’t ever use a number this large in their every day lives, but the national debt is approaching $20T. People should know what a trillion is. I bet a lot of people don’t know what a billion is either. Our education system does not provide people a way to become financially literate in a way that effectively teaches them how to manage their finances. I hardly learned anything about personal finance in school, college, or even during my MBA program! I learned about personal finances on my own and maybe a little from my family. Mostly I took a personal interest and used what I thought to be common sense:

http://discussion.fool.com/the-invisible-workers-31677596.aspx?s…

Personal finance is one thing but investing is a whole other level that takes much longer to learn. Most people have no idea what a good investment is. So we really have a society where most people are not great at managing their own personal finances and have no idea how to find good investments or distinguish good investments from bad or mediocre investments. What a great situation for the money management industry: there’s a whole society that is clueless about investing. So what ends up happening is that people, who establish a brand of trust and are able to convey a level of competence and skill, take control large sums of assets so that they can take a cut. The most sad thing about this situation is that most people do not have the skill to distinguish between the huge majority of money managers who can’t consistently beat the market and those are exceptional asset allocators. I think that a huge number of money managers rely on others to do their research and they just allocate into someone else’s recommendation. Or worse the money manager will just buy some mutual funds for their clients to “diversify” them. So the client pays the money manager a fee and they also pay a fee to the manager of the mutual fund. Fees on top of fees. The clients could just look up the mutual’s holding and allocate themselves. Or they could just buy the market and do better that putting the assets with a money manager.

Why don’t more people learn about personal finance and take control of their own destiny by learning to invest. You don’t have to be as good as Saul to outperform almost any money manager? People have their lives. They are busy and focused on other things. Many people don’t know what they don’t know and assume that managing their own money could never be in their wheelhouse. I meet a lot of people who in causal conversation learn that I manage my own money. I even have close friends who I have known for many years who know that I manage my own assets. Only a small fraction of them are curious enough to ask me anything in depth. Many will ask questions like “What do you think about Bitcoin or cryptocurrency”. I tell them about Saul’s board and how they could learn how to invest so they won’t need to work as many years. I would say that less than 3% end up going to Saul’s board, reading the Knowledge Base, and begin to learn. I am really baffled by this. I suppose they continue to believe that investing is an almost magical skill that they could never attain. They continue to believe that just because someone is associated with Goldman Sachs or is a professional stock analyst that the “professionals” will always be better at choosing investments. Most think that an ordinary person cannot possibly acquire the needed skill to pick better investments.

Many people here (on this board) have learned that there are a lot of myths imbedded in the ideas above. Many people have witnessed Saul crush the professionals. Many people have seen that people who the public views as a more knowing professional, can be an idiot who draws obviously incorrect conclusions. Andrew Left anybody? And some people here are laughing all the way to the bank because they know they can be better than the “professionals”.

Chris

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And it was reported today that David Einhorn’s main hedge fund, Greenlight Capital, is down 14% YTD. Einhorn is one one of the most famous of the hedge fund managers. How happy do you think clients are when they need to fork over 2% of their assets to lose 14%!

Chris

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And it was reported today that David Einhorn’s main hedge fund, Greenlight Capital, is down 14% YTD. Einhorn is one one of the most famous of the hedge fund managers.

Some people laugh when I say that we can beat any hedge fund manager. He has to do something far-out so that people will feel they are paying him for something important. We just have to do something simple, pick good stocks.

And think: Drew is at up 28%, I’m up 29% (with different portfolios). Let’s say that the average for people on the board following our principles isn’t up 28.5%, but up just… oh say 24.5%. So someone who invested $100 with Einhorn has $86 now while our hypothetical investor has $124.50. So our investor is doing about 44.8% better in three months (124.5/86.0 = 1.448). That’s not an inconsiderable swing.

Saul

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Great post, Chris…full of much truth and great perspective on how so much of the whole investment industry works and why Saul’s board is full of folks who do well allocating their own investments (84% beating the S&P 500, per the respondents to my poll a few weeks back).

I tell them about Saul’s board and how they could learn how to invest so they won’t need to work as many years.

I am only 33 still, but I would already estimate with a fair degree of confidence that my fortune to have discovered this board could knock 5 years off my required full-time working career (maybe more). An interesting study (or a future poll to post on this board) would be to have folks here estimate the reduced number of required* full-time working years that this free board has provided.

volfan84
*I recognize that some folks continue working simply because they enjoy it or simply want something to do, or plenty of other reasons, thus a reduction in the required full-time working years would be a more relevant measure than the actual years in advance that retirement could be achieved.

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I used to not understand why people would fork over their hard earned money for a mediochre return from a financial manager or management company. Especially when in most cases, one could do better than the manager simply by investing in an S&P index fund. But then I, one day (not so long ago), I handed over a chunk of money to one and they made a lot of money off of me. Why did I do it? One simple reason. I had so much stress going on in my life at the time that I simply didn’t need any more of a challenge. Investing can be a bit of challenge. Some people see the reward and are up for it. Most are not. It may seem easy now but in a down market, I believe most people feel a lot better and can be more objective when someone else is “at fault”, than when they are fully responsible. It’s just a way of managing stress that works for a lot of people.

Peace,
Dana

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“Why don’t more people learn about personal finance and take control of their own destiny by learning to invest.”

Good post. I find that most folks are unwilling to make an honest evaluation of their own risk level. From my experience (financial planner back in the early 90’s) people sucked at basic math and when you reviewed the risk reward with them, they were actually risk adverse. However selecting financial instruments that are very risk adverse is likely to break even with inflation over time and may even lose money in it. Hence people (especially men) take on more risk then they actually are willing to endure in a down market, panic sell when they should be buying. Then they revert to the CD, treasuries and part in an S&P 500 fund.

I would venture that there is less than 5% of the population that would invest in individual stocks unless it was a stock that was offered by their own company.

ETF’s seem to be the new silver bullet being pushed by wall street. It’s also the reason for the volatility this past quarter. It will likely bring more opportunity for us going forward.

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I keep hearing “when in a downmarket”. Up market, downmarket, it is all a market!

We were just in a market crash.

Why do you want a money manger for someone to blame?

If you invest in index fund it goes up and it goes down. Any stock you invest in goes up and goes down. That is what stocks do.

So if an index fund is better than pro money manger in down markets and index funds go down in down markets, it follows that they also go back up and outperform the money manager.

This past week my holdings went down more than most folk make in a year or more - so what? - that is investing. If I held something improperly overvalued and w no real prospects then yeah, panic time. But I don’t and I didn’t and there is no blame.

Learning to hold through a downturn and co tonuing to systematically buy is a difficult skill to acquire but yet absolutely essential to long term wealth. It may not be intuitive but trading in and out to “defensive”stocks, although they may fall less or even rise a little (assuming you have the timing correct - fat big assumption there) kills long term returns even if on paper it goes down less for a period of time.

Look at a chart of Nvidia for the last 3 years. How many stock crashes did it suffer a long the way? Why not sell before each crash and then buy back in at the bottom? Compare that to just systematically investing each month.

Denny can run a simulation I am sure ;).

Tinker

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Why don’t more people learn about personal finance and take control of their own destiny by learning to invest

—’

This is a pet peeve of mine.
Finance, in the manner of how investing works, compounded interest, credit scores, and home and auto loans, should be mandatory classes as early as junior high thru high school and thru college.

Not just an elective one semester either…this is as important as any other subject, but it is not treated that way.

Kids should have projects that last throughout high school where they manage 2-3 mock career earnings and pay bills/health insutance and invest and save for homes etc…

-Dreamer

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Look at a chart of Nvidia for the last 3 years. How many stock crashes did it suffer a long the way? Why not sell before each crash and then buy back in at the bottom? Compare that to just systematically investing each month.

Denny can run a simulation I am sure ;).

Tinker

Funny you should ask just now! There is a new thread at the Mechanical Investing board about “history of momentum thinking” and I ran a comparison between buying at IPO and holding vs. weekly momentum trading – buy when going up, sell when going down, no other criteria used.

I did a spreadsheet as well. Started with $5,000 on January 18, 1999 and bough all the NVDA I could on the first weekly uptick.

After doing 501 trades in 1002 weeks (half buys, half sells, no shorting), paying $4.50 in commissions, the account is worth $69,205.07 CAGR = 14.66%

My twin, Rip van Denny, bought 3,286 shares at $1.52 and went to sleep like all good Rips do. When he woke up on Thursday those shares were worth $761,004.73, a CAGR of 29.90%

http://discussion.fool.com/history-of-momentum-thinking-33027130…

If instead you had bought $5 worth of NVDA every week your shares would be worth $130,805 – better than momentum but less that buying $5000 at the start.

IMPORTANT CAVEAT: above I did not correct for present value (inflation).

If instead you had bought $5 (inflation adjusted 5%) worth of NVDA every week your shares would be worth $179,002 – better than momentum but still less that buying $5000 at the start.

Denny Schlesinger

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This is a pet peeve of mine.
Finance, in the manner of how investing works, compounded interest, credit scores, and home and auto loans, should be mandatory classes as early as junior high thru high school and thru college.

If only the world were perfect. By the time my mom had to manage her own stock broker account she was 77 years old. She was in very good health and her mind was absolutely clear, she did arithmetic in her head, but she was in no position to learn how to manage a stock portfolio.

Denny Schlesinger

BTW, she was still doing arithmetic in her head at 90 to the utter amazement of her younger friends.

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This is a pet peeve of mine.
Finance, in the manner of how investing works, compounded interest, credit scores, and home and auto loans, should be mandatory classes as early as junior high thru high school and thru college.

Not just an elective one semester either…this is as important as any other subject, but it is not treated that way.

It might be a pet peeve of yours–But it is a reality of life. The problem starts with —Who will have the knowledge to teach all these classes to all the students. Who will teach the teachers? There are very few that have the knowledge required, And who will set the standards in the earlier years?

b&w

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Your friend “Rip van Denny” sounds a lot like me as I tend to buy big at the start when I find something I feel compelled to buy, and thereafter,because I only get so much money each month to invest, add monthly. Of course I do take some jaw dropping stares because of it, but risk mitigation has its own costs as well as your simulation shows.

And the most risk mitigating are those selling and buying on market timing consistently and the cost seems very high f your simulation. Probably worse w those who use as I often hear referred to as “tight” stops when they get sold out at bottoms of crashes and continually have to buy in at higher prices.

Tinker

And have u seen the last 3 yr returns for bill ackman?

Disaster!

Of course I do take some jaw dropping stares because of it, but risk mitigation has its own costs as well as your simulation shows.

Tinker, buying by thirds just might be the wrong approach.

Denny Schlesinger

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Dreamer, I wish I could recommend your post 100 times. I am considering doing this as an after class exercise for students. do not know how they will accept it but with such a small group around here hopefully I can get the word out. In Hyde County we have 4000 people and 20,000 bears, bears not welcome.

Great post, sir! I go back and forth on this topic because, like you, I have friends and family who often times make a “resolution” to become more literate about their finance, to invest, save, spend less etc and come to me for some sort of discussion about it. I always offer to help, I’ll even sit there next to them at the computer to get it set up. I’ll read their plan details, I’ll research their investment options within the plan, I’ll summarize the “robo-investing” fees and options available to them. And yet, I have yet to have any of these people actually follow through (my sister is the exception). I had a lengthy discussion with my sister in law and her husband about some inheritance money they got from a life insurance policy. The person that managed that particular policy also had THE PERFECT place for that payout, a mutual fund. Not only a mutual fund, but a mutual fund with a 6% front load and 1% expense ratio. It’s actually not an awful mutual fund, but the fees are insane. We went over options (I pushed towards individual stocks or a simple S&P 500 index). I ran down for them what the 6% front load and 1% expense ratio meant over the course of 20,30,40 years and the actual dollar and cents of it. And yet, they chose to fork over their money to this salesman and pay a hefty commission for it. This salesman is a “trusted person” in his family and has always “managed” his parent’s money. I asked him why they decided to go that route and why he was comfortable paying a 6% fee up front. His response was that the salesman told him the fee was there so that the mutual fund company could better manage the fund in a downturn and would provide downside protection. I sat for a minute and contemplated what exactly was just e-mailed to me. I re-read it. Read it again, considered throwing my computer against a wall, calmed down and left it alone. I CANNOT believe the garbage people feed other people, I wonder if they actually believe themselves what they say? BTW, That SAME EXACT fund is available on Schwab for a 0% front load. A “trusted person” indeed. What a dirtbag.

I used to get wrapped up about people doing these stupid things with their money, I felt the need to force them to understand, I tried to discuss these things because I assumed people were as intrigued as I was about financial management and investing. A STRONG majority is NOT interested, it’s a bizarre thing. If people spent as much time on their investing as they do picking their march madness brackets, the country would be much more wealthy.

And so, the financial system we have today caters exactly to those people, the ones who aren’t interested and couldn’t care less. They provide them a means to have their money “managed” and not think about it. It’s better than nothing but it could be SO MUCH better if people followed TMF and Saul’s board. The people are getting exactly what they want.

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Fantastic post, it really hits home.

I have been lurking here for a couple years, and learning slowly but surely. I still struggle with owning my own destiny I as lack some confidence so I am personally managing a little over half my savings with the rest being in traditional instruments(Mutual funds, etc).

This year, I am up only around 6%, obviously I am not as agile and skilled as the people who are rocking along at 29%. However, rather than let it discourage me, I compare this to my traditional mutual funds all of which have lost money so far this year. I am beating them by double digits.

I figure that the more I learn, the more I will improve…and while I learn I am well over 2 years in , crushing the returns of my other savings. My plan is to start to transition them over to self management, however some funds have penalties for withdrawal/transfer out (another thing rarely mentioned when you sign up) , so it will be more of a slow trickle.

Thanks to all the great posters on this board, you help me to get better every day.

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Chris:

it is one thing to be financially literate and another to be a good investor. Financial literacy is a prerequisite to be able to read a balance sheet or income or cashflow statement. One derives some information from how a business works with those numbers.

This basic accounting is fairly simple and people could easily learn that if they wanted to. It’s not rocket science.

But I think being a good investor requires more than that in a sense. It requires a psychological disposition and a long view or at the least a view of a future. That would guide them. If one does not have that it is very difficult to be calm and be consistent about any thesis. With no thesis, one will churn or lose money on spurious tradings and fees not to say on capital loss due to being unable to ‘sleep at night’ or letting others drive one left and right, and they will sell at the bottom and buy at the top.
Certainly many ideas and visions turn out not to be. It is not easy and there isn’t really one way of doing it. There are many ways. Many will turn out to be right or wrong. That state of affair could be temporary but it could also be terminal.

The down side is limited but the upside is theoretically unlimited. So if you can try many times maybe you could hit that one up. You only need one. This game is somewhat heavily loaded towards the upside. You will make money more or less, and some will make orders of magnitude more. Some of that is just the nature of the beast. How much did skill contributed to that is always difficult to parse. Sometimes skills give you even worst results.

tj

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Reads pretty much like a history of my investing experience. And, I’m well educated and pretty adept at math and logic. I just never spent much time trying to understand investing, so even when I self managed, I followed the advice of “experts” or tips from where ever.

When I reflected on my past investment performance, I made the blunder of turning things over to the professional at Edward Jones. Why? Friends in my office spoke highly of their experience with Jones. That was a blunder.

Not until I started to follow this board, studied the Knowledge Base and took control of my investment strategy did I start to realise significant returns on my investments.

I still have a lot to learn, but at least I’m headed in the right direction. And there’s no shame in admitting I have a lot to learn. I’ll bet Saul and most of the successful investors who follow this board would say the same thing.

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