“Questioning yourself is hard.”
These are the opening words of Ken Fisher’s latest book, The Little Book of Market Myths: How to Profit by Avoiding the Investing Mistakes Everyone Else Makes, and I’m inclined to agree. Being a good investor requires two contradictory sets of skills. You must be confident and independent minded; but at the same time, you must be humble and willing to question your assumptions.
If you get the second half right but neglect the first, you end up, at best, as a closet indexer, tracking the broader market. And if you get the first half right but neglect the second, you can end up doubling down on bad trades and risk utter ruin. Just ask Bill Ackman about that…
Ken Fisher is one of those true rarities: A brilliant and successful money manager who is willing to share his insights and also able to explain them coherently. I’ve read his Forbes column for the better part of two decades, and his The Only Three Questions That Count is one of my favorite investment books of the past decade.
Fisher updated Questions in 2012 with The Only Three Questions That Still Count, and I recommend you pick up a copy if you haven’t read it. But for an introduction to Fisher’s research, I recommend you read Market Myths, his contribution to the Little Books series.
Fisher is the consummate contrarian; he has all but dedicated his life to disproving traditional wisdom and rules of thumb. Market Myths is neatly broken into chapters, with each chapter representing a market rule of thumb that Fisher aims to disprove. I’ll go through some of my favorites today.
Myth: Bonds Are Safer Than Stocks
Well they are, aren’t they? Not exactly. Yes, bonds are less risky if by “risk” you mean “short-term volatility.” Yet as Fisher show, over long investment horizons — say, 20 years — the volatility of stocks falls to nearly identical levels as that of bonds … and yet stocks have historically offered returns that are roughly double that of bonds. And we haven’t even touched on the issue of inflation, which hits bonds far harder than stocks.
But more fundamentally, stocks represent something that bonds never can: an ownership interest in a growing business. The best you can ever hope to receive from a bond in terms of capital appreciation is its face value at maturity. Yet the upside potential of a growing company’s stock is quite literally limitless.
Myth: Asset Allocation is All About Your Age
I don’t know if it is inherent laziness or something else, but finance seems uniquely susceptible to overly simplistic rules. One that Fisher and I both find particularly offensive is the notion that your asset allocation can be determined by subtracting your age from 100. For example, a 70-year old should have 30% allocated to stocks (100-70) and 70% allocated to bonds.