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Efficient Market? July 2, 2008

Posted by shaferfinancial in Uncategorized.
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For the last 40 years finance folks have been insisting that information on stocks is so wide-spread that is causes there to be a totally efficient market in the long term making it impossible for any one person to or fund to beat the market.  This has become the dominant theory leading to the idea that the individual investor should invest in stock index funds and concentrate on lowering expenses and asset allocation. John Bogle of Vanguard Investments created a family of funds based on this and has written books saying the same.  Ironically, Warren Buffett and Peter Lynch has joined in the noise of the efficient market.  Why ironically?  Because Mr. Buffett and Mr. Lynch are two people who beat the market for the length of their career rendering mind bending returns of over 20%.  Buffett for over 40 years and Lynch for 15 years (now retired). 

Enter in some historical accounts of financial bubbles throughout history, most recently real estate in 2003-2005 and technology stocks 1998-2000.  Confused yet?  I mean if markets are efficient, then what about market bubbles and how can a few select folks out perform the market for long periods of time?

Recently Mr. Buffet made a bet against a hedge fund manager, betting that a low expense index fund would outperform 4 hedge funds which have heavy expenses going to management.  The time horizon is 10 years.

Note that he didn’t bet on Berkshire, but on a stock index.

Market’s efficient?  Perhaps over the long run, but certainly not over the short term.  I define a speculator has one that tries to take advantage of the “madness of crowds.”  An investor is one that looks at the evidence, looks for value, and uses leverage when possible, to create higher returns.  As to Buffett; he is living proof that investors can outperform the market over the long haul.

I am betting on Warren Buffet being a better stock investor than I, so I put the majority of my stock portfolio in his hands.  So far it has worked out. 

I wonder what the stock index folks think about their efficient market theory now that we are staring down the possibility of a full decade of no growth from the S & P 500.  I have to admit I find these folks a little smug considering the reality of the evidence.  I mean I have had these folks tell me I am a fool for investing in real estate and an individual stock (Berkshire).  Yet, my home is worth over two times what I paid for it in 2000 and Berkshire has returned over 10% annually since 2000 and my REIT is up a total of 232% over the last five years in addition to paying out $12.34/share in that time.  Even my New Hampshire Condo bought in 2005 is up 10% in value.  Now I tell the reader all this not to demonstrate my superior investment skills, because I don’t have them.  Only to make the point that the market may be efficient, but that does not necessarily mean one should give up on the possibility of doing well and decide that average is the best you can do.  And for all those folks who think buying low expense mutual funds will get you to your goals, take a serious look at your finances now.  Time to learn how to do better!   

Efficient markets?  Who cares?????





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