Investment Articles and Commentary

VANGUARDS SEVEN COMMON MISTAKES IN FUND SELECTION: 1998 (My comments follow)

1. Overemphasizing performance, especially short term. Amazing how many people focus on a fund's return for the last week or month. Primarily fostered by Money Magazine, etc.

2. Misjudging a fund's investment risks. This amazes me even more. People have little, if any, idea of how to identify and quantify risk.

3. Ignoring the impact or fund costs on risks. Everything else being equal, one fund will beat another similar one due solely to the lower costs. Active managed funds have higher costs so you better be sure they produce.

4. Failing to match investment goals with a fund's objective. If I am using a managed fund, I check a fund thoroughly before investing. (The issue with index is normally moot.) Occasionally, it has been interesting to note how fund objectives change over time. But I won't sell just because the fund has changed since I am looking to the manager to increase returns. But if the returns fall short as well, I'm outta there.

5. Misinterpreting investment results. (Were dividends included, what time frame, etc.)

6. Lacking patience to evaluate a fund investment properly. It's called research, research, research. If you can't do that, you are one bad investor.

7. Following blindly the recommendations of friends and publications. This is a real problem for investors and "referrals". Anyone getting a referral thinks everyone else has done a lot of homework where in fact no one really has. And many of these people writing articles wouldn't know standard deviation and Bill Sharpe if it bit them. And if you don't know either, you have no business investing by yourself. Your fundamentals are totally flawed.

INVESTMENT NEWSLETTERS: 1998 Tons of newsletters spout their inherent capability in providing insight to the best investments. Any good in total? Well a researcher did a study and this is the synopsis of his work

"This paper analyzes the equity-portfolio recommendations made by investment newsletters. The dataset spans 16 years, is free of survivorship and back-fill biases, and includes the recommendations of 145 different newsletters. Overall, there is no significant evidence of superior stock-picking ability for this universe of newsletters. Some individual letters do have superior performance records, but this does not occur more often than would be expected by chance, and these records are never more extreme than would be expected for the sample size. In addition, while there is some short-term performance persistence, a strategy of buying past winners does not earn statistically significant excess returns."

CHANCE OF LOSS: (1998) If we look at the S&P 500 from 1926 up to 1993, there was about a 30% chance that in any one year, you would lose money. If you do the formula for standard deviation over a period of five years, the chance of loss drops to 11%; over ten years the loss drops to 3% and over 15 years the loss goes down to 0. Those are statistics however and do not necessarily refer reflect the real-life scenario that can really hurt. Take 1973 and 1974 for example. During those two years, the stock market lost over 40 %. My point? Statistically the markets risk does drop the longer you happen to be in the market; but if it does drop at the worst time for you, statistics will offer little consolation. If you do a continual review of economics, I think you can stay well within the range of statistics and also limit you loss to anyone year period to perhaps no greater than 10%.

STOCK MARKET VOLATILITY: (Federal Reserve Bank of New York) Their article indicates that although volatility increased in 1996, the rise simply reflected a return to post World War II norms from the unusually low volatility experienced between 1992 to 1995. In fact, the daily volatility of the Dow from 1992 to 1995 was at its lowest level in decades. They note that a doubling of the Dow's level causes a 5 fold increase in the number of days in which the index closes up or down 50 points. The Dow Jones industrial average increased more than 60 % between 1992 in 1995 alone. Therefore they indicate that the daily swings in the Dow by 50 points, until recently an aberration, will continue to occur regularly.

INVESTMENT BEHAVIOR: 1998 (Frank Armstrong). While there are exceptions, "economists are constantly amazed at the ability of individual investors to obtain such poor investment results. In an efficient market, individuals should not be able to do as poorly as they do. An entire branch of economics has devoted itself to trying to explain Investor behavior, and how to explain their results in the markets."

INVESTOR OVERCONFIDENCE: 1998 (Simon Gervais & Terrance Odean) You have read my previous comments about the inability of individual investors to really understand what they are doing. Basically, if they do not know what the fundamentals of investing are- alpha, beta, correlation, diversification, Sharpe ratio etc., then you are primarily kidding themselves about their inherent capabilities. Secondly is my (slightly) irreverent definition about the male ego and is effect on investing:

MALE EGO: A genetic mutation that flourished. Responsible for more bad investments and bad investment decisions than any tax law changes by Congress. Though usually noted in the male species, females are also prone to its insidious faults- lack of reading and adequate research followed by defective decision making based on insufferable narcissism and the rationalization it was someone else's fault when the investment tanks. Used a lot by stupid people or intelligent people acting stupid. Caution advised when using this as the main rationale for investing.

Gervais and Odean did a survey in 1997 of many investors. While their comments are in more fluid terms than mine, you'll see they simply match my comments of many past years.

They referred to the fact that a novice investor does not know why he/she is successful until enough time passes so that they can gauge how they are doing by the increases or decrease of their portfolio. They noted that they take too much credit for their successes and take less responsibility for the losses. Therefore the overconfident man (usually a man so I will dismiss the "she" in further commentary) tends to become more risky in the investment orientation than his ability sustains. "An overconfident trader trades too aggressively, thereby increasing trading volume and market volatility." "Overconfidence does not make traders wealthier, but the process of becoming wealthy can make traders overconfident."

The problem that I see is that such overconfidence in this type of market is invariably due to luck- not skill- or at least limited skill. And should they take such overconfidence into retirement and the market changes, they can then put their families into an untenable financial situation when the risky investments possibly fail- or at least exhibit too much volatility for retirement use.

In terms of losses- Tversky and Kahneman noted in as early as 1979 that "contrary to expected utility theory, people placed different weights on gains and losses and on different ranges of probability. They found that individuals are much more distressed by prospective losses than they are happy by equivalent gains." They noted that some economists think people are twice as likely to feel the pain of a loss than the joy of a gain. context of losses or gains. And from their 1979 article they "found that people are willing to take more risks to avoid losses than to realize gains. Faced with sure gain, most investors are risk-averse, but faced with sure loss, investors become risk-takers."

Additionally- and noted here previously- people have a tremendous aversion to selling a stock or fund that is doing terrible- even when presented with all the fact indicating the lowered ranking by independent services. Professor Statman is an expert in the behavior known as the "fear of regret." "People tend to feel sorrow and grief after having made an error in judgement. Investors deciding whether to sell a security are typically emotionally affected by whether the security was bought for more or less than the current price. One theory is that investors avoid selling stocks that have gone down in order to avoid the pain and regret of having made a bad investment. The embarrassment of having to report the loss to the IRS, accountants, and others may also contribute to the tendency not to sell losing investments." I have often found another issue- emotional or sentimental familiarity. Some "investors" may have been given stock by a family relative, a deceased member of the family, through a divorce, etc. The emotional attachment may preclude them from selling since the benefactor- though possibly deceased- would think less of them.. Same scenario where so many employees are using employer stocks- primarily in 401(k) plans. The attachment to their work precludes selling a stock that may well be fundamentally flawed but where they are actively involved with the company that they "cannot possibly consider" a sale. As proof, consider Digital. Once a solid company with value escalating from the mid 30's to $200 per share, it plummeted to as low as $16 a share before recovering only slightly. But I know of some that did not even remotely diversify when presented with independent Value Line ratings of D.

Statman also acknowledged the "conventional wisdom to avoid the possibility of feeling regret in the event that their decisions prove to be incorrect. Many investors find it easier to buy a popular stock and rationalize it going down since everyone else owned it and thought so highly of it." (That's the standard "herd mentality" that many articles comment about.)

As regards my MALE EGO, the professors noted that "People are overconfident in their own abilities, and investors and analysts are particularly overconfident in areas where they have some knowledge. However, increasing levels of confidence frequently show no correlation with greater success. For instance, studies show that

MEN CONSISTENTLY OVERESTIMATE THEIR OWN ABILITIES IN MANY AREAS INCLUDING ATHLETIC SKILLS, ABILITIES AS A LEADER, AND ABILITY TO GET ALONG WITH OTHERS.

Money managers, advisors, and investors are consistently overconfident in their ability to outperform the market, however, most fail to do so. (That's why the use of index funds is, to some degree- valid investing asset allocation.) "In summary, people trade for both cognitive and emotional reasons. They trade because they think they have information when they have nothing but noise, and they trade because trading can bring the joy of pride. Trading brings pride when decisions turn out well, but it brings regret when decisions do not turn out well. Investors try to avoid the pain of regret by avoiding the realization of losses, employing investment advisors as scapegoats, and avoiding stocks of companies with low reputations."

The different "spin" I put on the commentary is the reference to the use of the term "investors". These people are NOT investors- they are novices with limited background and skills and with a lot of emotional baggage they bring to the "game". For all intents and purposes, there is no emotion to investing. It is simply research of numbers and estimates of company and worldwide economics. If you play it any other way, you still might reach high financial goals. But it was undoubtedly due to luck and extra risk- not skill. Will you be lucky?????

FUND REPORTS: (1998) Literally every magazine and WEB site (But not mine) let's you instantaneously see how your mutual fund is doing. But the ludicrousness of trying to buy the best fund has reached a level of absurdity (actually, it happened many years ago with literally all the financial magazines offering their best list on which fund will do the best for the next year, quarter, 5 seconds.) And in the most recent issue of WORTH (these people are really out to lunch- they are still suggesting the use of illegal planners) they have their 1998 mutual funds report and how they did and what they plan on doing about it. "1998 MUTUAL FUND REPORT: BEAT THE S&P: Ninety-five percent of professional money managers were humbled by the Standard & Poor's 500 Stock Index last year. We think we can help you do better. Included in this special report: the Worth mutual-fund portfolio and performance forecasts for 850 funds."

WORTH says its funds also didn't make the grade. In fact, if you view their chart of their 15 top fund picks during the last three years, only two were repeats from the year before. So why would you use what Worth recommends? I dunno.

Worth also commented that they were focusing on value stock since that has historically done better than pure growth. Well that is the same commentary one could use for small cap stocks- but they have NOT done well for about a decade.

So what about using the "best" recommendations from the likes of Schwab. Any better? Well, Money magazine noted this in their May study of Schwab fund recommendations: Number of stock funds that have made every Schwab list since 1993. ZERO. That's right, 0, nada, zilch, none. And it distributes its recommendations of funds each quarter to about 500,000 investors.

Money reviewed the 35 domestic equity fund list of the first quarter of 1995 but found that 20 had dropped to the bottom half of their peer group over the subsequent 3 years. Only 4 remained in the top quarter of their categories. And not one fund is in their most recent list. One problem is that they supposedly pick the hottest funds going.

Peter Bernstein, recently interviewed in a Business Week article, noted it is tougher for managed portfolio managers to beat the market due to two reasons. The first is that the market has become more efficient due to a manager's greater capability (due to technology, I submit) in market behavior, risk/reward trade offs, quantitative analysis, etc. And the second reason is that managers have also become more conservative. If you want to beat the market, you almost universally have to take on more risk. If you are successful, the market will reward you handsomely. But if you make just one mistake, it's normally bye, bye. Look a Jeff Vinik with Fidelity Magellan.

During the period of 1960- 1981, the average annual return of equity mutual funds relative to the S&P 500 was 17.5% for the top 20% of funds. In the period of 1982- 1987, it dropped to 8.5%- and I bet they weren't the same funds at all. The bottom mangers just stayed lousy. Between 1960 and 1981, the worst 20% were about 10% lower. But most recently, they were about 14% lower. Bernstein states that the "moral of the story is that the manager selection may be the greatest investment risk of all".

Also, Bill Sharpe- the Nobel winner in economics- is a staunch supporter of index funds and a recent Asset Management article with him confirmed many of the corresponding statistics as to why managers do not consistently outperform. I also wanted to show some of Sharpe's recent commentary regarding risk and some poignant commentary he had about individual competency.

"Investment decisions are moving to individuals who are ill prepared to make them. These are complicated issues. To say, here are 8,000 funds, or even here are 10, do what's right, is not very helpful. The software versions and some of the human versions of the advice that people are getting often seem to ignore risk. They're bookkeeping schemes in which you earn 9% every year like clockwork. You die right on schedule. There's no uncertainty at all. Making a decision as to stocks vs. bonds. vs. cash and about how much to save, without even acknowledging uncertainty- let alone trying to estimate it- seems to me the height of folly."

Obviously I buy Worth, Smart Money and many others. They DO have good material in them. The problem is, they also have just plain garbage because the 1. their "journalists" have little or limited understanding of investments or planning overall and 2. they are out to sell magazines and 3. many of their readers don't have a clue what to do and don't want to find out by doing any serious research.

TOTALLY UNREALISTIC RETURNS: (1998) A Paine Weber survey indicated that inexperienced "investors" are expecting outlandish returns much higher than long term investors. Over the next 12 months they expect returns at 15.2%. Those that are the least experienced expect even higher returns of 18.1% and are the least likely to see the market as overvalued.

Actually, let's see how well history repeats itself. Take a look at the S&P's great returns from years past and see how well it did in the subsequent future. Four times since 1926 large-company stocks have generated inflation-adjusted returns of more than 14.5 percent for periods of 10 calendar years. However that unusual level of return never lasted even five more years.

So, will this time be different? No one knows but, in my opinion, anyone that thinks we are going to continue to receive relatively stable and consistent 14.5% returns for the next 5 or 10 years is a quart low.

MUTUAL FUNDS: (1998) Fund commandments (Individual Investor). They suggest 10 issues to review when considering a mutual fund.

1. If a fund has experienced rapid growth, consider looking for another with seminar strategies but fewer assets. History had shown that when many funds get to big, they get to unwieldy and the yields suffer.

2. In conjunction with above, John Bogle noted that giant funds have little freedom to go beyond a limited number of well-known stocks. They therefore suggest that one never by an actively manage bond with more than 10 billion in assets. The article noted that the 30 biggest funds each have more than eight billion in assets, and not one beat the S&P 500 in 1997.

3. Stick with companies that have recorded low management turnover in the past. While you cannot be sure that a new manager might not do better, disruption of management generally mean problems overall.

4. Stay with funds whose focus remains the same. The point being that when some funds became larger, the portfolio shifted focus- say Small to Midcap- and yields suffered.

S&P 500 or LESS: (1999) In 1998, the S&P 500 returned 27%- the fourth consecutive year over 20%. Its 5 year return was 194%, the best since 1926. However, 10 stocks accounted for almost half the performance at 43%. The average stock in the index was up 11%. The median price changes (half did better, half did worse) was 3.5%. The 50 largest companies representing 55% of the index's weighting had an average gain of 47% whereas the remaining 450 stocks had an unweighted gain of just 7%. The Russell 2000 index lost 2% in 1998. On the NYSE, 945 stocks were up while 1,429 were down. In the over the counter market, 1,261 were up and 2,360 were down. In percentage terms, 63% of the stocks were down for the year.

Or from a slightly different analysis- stocks with more than $20 billion capitalization rose by 25.9%; those between $5 billion to $20 billion rose by 6.2%. The average growth in other cap groups actually declined in price and those with under $250 million in capitalization declined the most at a negative 24%. Same thing is happening now

STOCKS: (1999) According to Ibbotson Associates, stocks have returned 11.2% a year, on average, since 1926. In about 1983, the annualized return was 9.4%. A NY Times article analyzed the next 10 years of returns from two different scenarios- that returns would average 18% annually; earnings would grow 6% a year (on the high side of performance during the recent past), and that inflation would stay low, at 2%. For the worst case he plugged a price-to-earnings ratio of 17.6 for the S&P 500 into his equations, the average during periods of low inflation. He also assumed a much lower, but not outlandish, earnings growth rate of 2% a year.

The conclusion? If stocks returned what they have for the past decade, the S&P would be trading at 48 times earnings in 2009, or 50% higher than the 32 times earnings for the index today. But if the p/e ratio reverted to normal levels in a low-inflation economy, stocks would return just 1.9% each year.

"No sensible person can honestly say they expect the S&P to sell at 48 times earnings," said Peter J. Tanous, the president of Lynx Investment Advisory Inc. in Washington. "If they do, there's only one word for them -- and the word is delusional."

If you are attempting to do your retirement planning based on the higher returns, I bet you can plan for a short retirement.

MARKET NEUTRAL TRADING STRATEGIES: (1999) (Individual Investor): This is an attempt to go both long and short and the same time and making a little cash at the same time and has been touted as diversification at its best- or extreme. What the analysts does is buy stocks that he thinks will go up and goes short (sells) stocks he thinks will fall. With the money form the "sale", he invests in Treasury bills and picks up some extra cash. So should you take a plunge in this "can't lose" strategy.? Well, does Long Term Capital strike a cord? Every time I have heard of the new thing on the block that will beat everything else (CMO's for example, Option Income Funds), I decide to wait awhile- maybe a year or two to see what happens. Next, the costs may exceed 2% annually- and the Vanguard S&P is under .25%. They definitely need more money to analyze both longs and shorts but you better make a piece of change to support the extra fees. And they tend to trade a lot due to the different exposures. Well, there goes your tax benefits.

But the bottom line is- do they work? The Barr Rosenberg fund was down 0.7% in mid December. The Euclid Market Neutral fund was down 4.5% in the first six months of operation.

They have been touted by Bill Sharpe, President of the IBCFP and others as the "investment du jour". Use at your own risk. I'll pass.

STOCK GROWTH: (1999) (Mutual Funds) $1.00 invested in a diversified growth fund in 1871 would have grown to $33,770- a 8.6% annual return. $1.00 in Treasury bills would have grown to $9.88- 1.8% annual return. $1.00 invested in gold would have FALLEN to $.57 adjusted for inflation and storage costs. All include dividends and interest and adjustment for the 1,214% increase in consumer prices- but not taxes.

NEW FUNDS: (1999) I offer these as statistics only- I do NOT buy new funds just looking for a fast winner with the intent of selling shortly thereafter. Basic investment parameters should always be addressed. But there are times when you need to be aware of inconsistencies/anomalies in the market that defy the efficient market theory and diversification. Anyway, Kobren Insight Group did a study of new funds a their immediate performance versus the rest of the market. They found that new funds outproduced existing funds by about 66%. In the first year, 66.4% of large cap value stocks beat the older competitors by about 2%; 71.6% of mid cap growth beat old funds by about 2.9% and 71.7% of small cap beat old funds by a significant margin of 9.2%. Almost without question the increase is due to the far smaller base of stocks new funds work with and the fact that the managers may have picked a couple stocks well that show faster and higher returns than old funds that have greater diversification. And almost universally, the difference starts to dissipate within a year thereafter.

STOCK OPTIONS: (NY Times 1999) An interesting study by Wyatt Worldwide showed that companies that offered the greatest number of stock options actually underperformed companies that did not offer as many. They tracked 940 companies and divided them into three categories based on potential dilution to their shares if the options already granted as well as those available for future grants were exercised. The dilution, expressed as a percentage of the shares outstanding was as high as 18.7% for the top third of companies and returned a median of 13.5% for shareholders in 1997.

The middle third who would be diluted by just 10.6% if all the options were exercised returned 16.9%. The study requires more time but may be worth noting.

STOCK OPTIONS: Are you a heavy hitting executive that gets company stock options? Some employees have gifted the options to children /other beneficiaries and got the asset out of their estate for a very limited gift tax. But the IRS is saying that the options, when tied to continued employment, are not valued till the exercise date potentially several years later. The value may be substantially different than the original value 3 to 5 years later and the executives/taxpayers may be required to cough up some major taxes. Be forewarned

DELISTING: (1999) This is why the returns on small cap stocks are not necessarily valid. The companies may simply not be there to be counted. How's that?? In October 1998, 564 companies had already been delisted from the Nasdaq market that year because their price drooped under $1.00 per share. In an attempt to boost the quality of its issuers, stocks that fall under $1 for 30 days or more are subject to delisting. At the beginning of 1998, about 226 Nasdaq stocks, or 4.1% of the 5,500 on the market, were under $1.Now about 600 Nasdaq stocks, or 10% of the total market, trade under $1. "That's more than the annual totals in many years and is on track to eventually eclipse last year's total of 717 deletions and the record of 719 in 1988."

ANALYSTS: (NY Times 1999) "A 1999 study says there are 2,427 analysts following the market, up 32% from 1997. So what is it that they really do? Since 1997, time spent on fundamental research has fallen from 47.58% to 39.89%. Next year, analysts expect to devote less time yet -- less than 37% -- to research.

Time spent on company visits and contact has also dropped, from 17.21 percent to 15.21 percent. But time spent selling to institutional clients has risen to 23.22 percent from 22.11 percent. What analysts are selling increasingly today is not the ability to plumb a company's business and uncover investment gems or scams but rather the ability to make investors buy the stocks they follow."

ANALYSTS: (NY Times) "A 1999 study says there are 2,427 analysts following the market, up 32% from 1997. So what is it that they really do? Since 1997, time spent on fundamental research has fallen from 47.58% to 39.89%. Next year, analysts expect to devote less time yet -- less than 37% -- to research.

You want to see something truly comical in article? Notice how the percentages are defined to the hundredth decimal place. Absurd. Such "analysis" is flawed.

WANNA BUY A FIVE STAR FUND???: (NY Times 1999) According to a study by by Christopher R. Blake, associate professor of finance at Fordham University's Graduate School of Business, and Matthew Morey, assistant professor of economics at Fordham, Morningstar's five-star funds, as a group, do not beat the market, even if they clearly do better than the average one-star fund. For example, the average fund with a five-star rating on Jan. 1, 1993, underperformed the market by 3.8 percentage points for the five years through Dec. 31, 1997. And while a one star fund is not good, they found that the differences between the performances of the average five- , four- , and three-star funds are so small as to have very little statistical significance.

The Value Line Mutual Fund Survey also bases its ranking on historical risk-adjusted performance, though it looks at performance over different periods than Morningstar does and defines risk differently. Yet, on average, its group of highest-ranked equity funds have performed more than one percentage point a year worse than Morningstar's.

One system that has worked system calls for the purchase each Jan. 1 of the best-performing diversified no-load equity fund of the previous year. According to Sheldon Jacobs, editor of the No-Load Fund Investor in Irvington, N.Y., such an approach would have produced a 20.2 percent return, annualized, since the beginning of 1975, beating the Wilshire 5000 by an average of 3.2 percentage points a year".

I have noted that strategy for years and there are articles that I have written about its capabilities. But a couple things require note. First, it is lacking in almost any tax efficiency unless all the accounts were tax deferred. In that regard, literally no tax sheltered accounts allow every fund that exists- save for perhaps an independent IRA account (and those may be limited in size anyway). Secondly, it is almost only valid for up markets since it is the momentum that keeps it going. Further commentary on how "easy" it is to use comes from a former professor, Mark Carhart, who has studied fund performance year to year back to 1962. "If fund performance were all a matter of luck, one would expect that just 10 percent of all funds in the top performing decile one year would repeat that performance the next year. But Carhart has found that a greater percentage of those top performers manage to do so. Here's the catch: He has also found that the top decile performers in any one year are more likely to end up the next year in the bottom 10 percent." And in usin g the Jacobs strategy, the portfolio was 31% MORE volatile than the broad based market.

The article states what I have said for years, "The problem with the popular rating systems is that they do a poor job of distinguishing between adviser skill and mere luck." andUnless they're willing to just go with the roll of the dice, investors should judge a fund's performance only by comparing it to others that focus on the same kinds of securities and pursue a similar investing style.

If you or your adviser is not reading stuff form the Federal Reserve Boards, your ability to use a rating service for any investing is highly suspect.

MORE VOLATILITY (NY Times 2000) "Only a decade ago, the NASDAQ composite averaged about one big day -- defined as a close at least 1 percent above or below the previous day -- each month. So far this year, it is averaging three such days every week. New ways of trading, brought on by technology and financial engineering, can roil the markets until other traders become used to the effects generated by such trading. That was true of institutional block trading in the 1970s and computerized index arbitrage in the 1980s. And it may be true now of Internet-based day trading, which has made it possible for individual speculators to trade much more rapidly, and with lower trading costs, than ever before." True- but perhaps once the market tumbles somewhat, investors may begin to realize that their trading actually produced loses as compared to a buy and hold scenario and hold back on excessive trading. (Actually, who am I kidding. Such investors don't read research papers anyway. Further, they universally think they are smarter than literally any analyst and can therefore make higher returns than almost anyone.)

The article noted that energy had been bid up to astronomical highs in the 80's- primarily on the precept that oil was a "limited" commodity that would have to increase in price. (Do you realize there is now more oil available for capture than at any time in history? May seem incongruous but it is the ability of new technologies in getting to large amounts of oil that were previously unobtainable.) Anyway, the article went on to say that "technology stocks may be the oil shares of this era. They now make up a quarter of the S&P 500, far more than their share of gross domestic product or corporate profits. The proportion is even more extreme in the NASDAQ, where the five largest computer-technology companies -- Microsoft, Intel, Cisco, Dell and Sun Microsystems -- together account for a third of the value of the more than 4,000 stocks in the index." True again, but look to Greenspan's comment that technology may have fundamentally changed our entire economics, manufacturing, lifestyle and just about everything else. At least that is how I see it. New technology will increase every single day. Admittedly not all of us will be able to follow all the innovations. But corporations will make such effort and continue to provide productivity increases, safety advances and more.

The article noted that "volatility in the NASDAQ market set a record in 1987, with a standard deviation of 1.57 percent, easily exceeding the 1974 peak of 1.12 percent. That was a record that stood until 1998, when the figure hit 1.66 percent. Through October it was 1.79 percent. With the S&P 500, the volatility explosion is not nearly as great. On average, there are about two days a week with a percentage change of at least 1 percent, compared with three for the NASDAQ. But that figure is higher than for any full year since 1974, slightly exceeding the 1987 figure. The standard deviation of daily returns, however, is down to 1.18 percent through October from 1.28 percent in 1998. Those are the two highest figures since 1987, but they are far below that year's figure of 2.02 percent."

What the article did not note was that the early 90's had three years in a row of the least volatility of the stock market's history. Then it was real easy to earn a yield and make it also look like it had no risk. Maybe this is a little payback.

DIVIDENDS- (2000) Used to be that the value of the stock market was, in large part, measured by the dividends being paid by corporations. Historically, if the dividends fell, so did the market. And if you had solely listened to that, you would have missed some huge gains since the early/mid 90's. But a lot of the previous valuation methods were no longer valid. Per the NY Times, "Standard & Poor's Corp. reports that 117 companies announced dividend increases in September, 10 fewer than had raised their payouts a year earlier. It was the 15th consecutive month that the number of dividend increases was down year-over-year. What is unusual is that the economy is doing so well even while companies are growing more reluctant to raise their dividends. This is the seventh such streak of at least 15 months since S&P began counting dividend increases back in 1955. In all but one of the six previous runs, there was a recession in the period. Recessions, of course, usually mean sharp falloffs in corporate profits. So a dearth of dividend increases in such periods should be expected."

Dividends can go so low because investors do not care much about them. It is appreciation/capital gains that have made them rich, and it is the pursuit of capital gains that drives stock investments now.

New Paradigm or Mean Reversion by Jeremy Grantham and Jack Gray (PDF format only 2000) Are we really seeing a change in all the investment fundamentals or will there have to be a reversion to the mean? It either means that the P/E ratio of 30 is now an absolute- or maybe we go back to something more akin to past reality- say 15- 20. We have seen some change most recently with the drop in tech stock but that does not deter many from looking at the rest of the stock market as a long term, almost riskless, piggy bank.

Characteristics, Covariances, and Average Returns: 1929 to 1997, James L. Davis, Eugene F. Fama, and Kenneth R. French. The world's foremost financial economists confirm the existence of premia for both small and value stocks, and make a powerful argument that the excess returns from these factors are due to risk, and not mispricing.

This is not what happened over the last 10 to 15 years since investors paid little attention to P/E ratios with the advent of the Internet and teh associated tech stock. But maybe it is a precursor or coming events and returns. You must understand reversion to the mean if you are a serious investor.

OVERSEAS ACCOUNTS: (2000) The IRS wants to make examples of US Citizens who have escaped paying legitimate taxes by the use of "secret foreign bank accounts." (Rob Lambert, Asset Protection Corporation) "Recently the 29-member Organization for Economic Cooperation and Development (OECD) published a list of 35 Countries which it said were guilty of practicing harmful tax practices. They were given a year to decide whether to "eliminate harmful features of their regimes" or face "defensive measures" to be defined over the coming year. The countries on this "Bad Tax Haven List" are Andorra, Anguilla, Antigua and Barbuda, Aruba, Bahamas, Bahrain, Barbados, Belize, British Virgin Islands, Cook Islands, Dominica, Gibraltar, Grenada, Guernsey, Isle of Man, Jersey, Liberia, Liechtenstein, Maldives, Marshall Islands, Monaco, Montserrat, Nauru, Dutch Antilles, Niue, Panama, Samoa, Seychelles, St. Lucia, St. Kitts and Nevis, St. Vincent and the Grenadines, Tonga, Turks and Caicos, US Virgin Islands and Vanuatu.

The 30 industrial countries in the Financial Action Task Force on money laundering, affiliated with OECD, published a list of 15 territories which it said were failing to cooperate in the international battle against money laundering. These Countries accused of fostering money laundering are The Bahamas, Cayman Islands, Cook Islands, Dominica, Israel, Lebanon, Liechtenstein, Marshall Islands, Nauru, Niue, Panama, the Philippines, Russia, St. Kitts and Nevis, and St. Vincent and the Grenadines.

Last month the Group of Seven industrialized nations released a table of more than 40 tax havens worldwide, classifying them according to the quality of their financial regulation and supervision. A number of the countries receiving poor marks on this list were also on the Bad Tax Haven List and the Money Laundering List. The countries appearing on all three lists are The Bahamas, Cook Islands, Liechtenstein, Marshall Islands, Nauru, Niue, Panama, St. Kitts and Nevis, Saint Vincent and the Grenadines.

Institutional ownership: As of the third quarter 1999, the FED noted that mutual funds owned $2.7 trillion of the $16 trillion of U.S. stocks. That's about 17% up from 7% ten years ago. Pension and insurance companies, et al, own about $5.3 trillion. That's 33% up from 18% ten years ago.

Households and non profit organizations owned $6.6 trillion. That's 41% compared to 51% ten years ago.

Slower future growth??: (2000) Eugen Fama and Kenneth French say that the the historical equity risk premium may be much lower than previously stated. "If we use the average growth rate of real dividends for 1950-1999, 1.61 percent per year, to estimate the expected future growth rate, the expected real stock return is 2.93 percent. The riskfree real interest rate for 1999 is 2.24 percent, so the estimate of the expected equity premium is 0.69 percent. If we replace the 1950-1999 dividend growth rate with the higher average growth rate for 1872-1999, 2.15 percent per year, the expected real stock return rises to 3.56 percent, and the expected equity premium is 1.32 percent."

Slower future growth??: (2000)Eugen Fama and Kenneth French say that the the historical equity risk premium may be much lower than previously stated. "If we use the average growth rate of real dividends for 1950-1999, 1.61 percent per year, to estimate the expected future growth rate, the expected real stock return is 2.93 percent. The riskfree real interest rate for 1999 is 2.24 percent, so the estimate of the expected equity premium is 0.69 percent. If we replace the 1950-1999 dividend growth rate with the higher average growth rate for 1872-1999, 2.15 percent per year, the expected real stock return rises to 3.56 percent, and the expected equity premium is 1.32 percent."

Innovation: (2000) With over 10,000 funds, many fund families just can't get attention- particularly no loads. So what is new- loads. Scudder is adding sales charges as high as 5.5 percent to all 36 of its funds. The number of load funds has inched up to 64.3 percent of all funds from 63.8 percent three years ago. Direct sales of funds to investors fell to 18 percent of total fund sales in 1999, from 23 percent in 1990

But the article addressed this,"A broker can provide much-needed guidance about dividing one's money among bonds, stocks and cash, and can help select the funds themselves."

Why? Brokers may add insight greater than an unsophisticated investor. But a broker CANNOT lend substantial- even needed - knowledge because a broker has never been taught the fundamentals of investing.

V = D0 + D1 +     D2 + ........ Dn
                1+k     (1+k)^2         (1+k)^n

Where: V    is the present value
            D0   is the dividend initially
            Dn   is the dividend in the nth year
            k     is the discount rate, or the desired
                   rate of return

V + D0 (1+g / 1+k) + (1+g / 1+k)^2 + ........ + (1+g / 1+k)^n

P / E = 1-b
            k-g

    Where: b = earnings retention
         k = discount rate
      g = growth rate

Buy and Sell: (2001) Also repeatedly addressed, "buys" from brokers and analysts outnumber "sells" by a large margin. In a sampling of over 27,000 recommendations, a strong buy garnered 35.7%; buy at 36.8%; hold at 26.6% and sell at only 0.9%.

Company	Country	Close	Shares	US $ % Chg	Market Cap	Weight
Microsoft Corp.	USA	111.688	5204852	-0.17	581.32	8.5
General Electric Co.	USA	159.063	3277652	-0.2	521.35	7.62
Intel Corp.	USA	139.063	3340999	-2.5	464.61	6.79
Exxon Mobil Corp.	USA	77.250	3461574	2.32	267.41	3.91
Deutsche Telecom AG	Ger	89.400	3029604	5.88	264.75	3.87
Wal-Mart Stores Inc.	USA	55.188	4453740	2.2	245.79	3.59
International Business Machines Corp.	USA	121.000	1802604	5.27	218.12	3.19
Lucent Technologies Inc.	USA	64.500	3187478	-0.67	205.59	3.01
Citigroup Inc.	USA	60.500	3371665	-2.12	203.99	2.98
France Telecom	Fra	191.000	1024615	5.07	191.3	2.8
AT&T Corp.	USA	58.813	3195043	2.73	187.91	2.75
Toyota Motor	Jap	5110.000	3760650	3.73	179.89	2.63
BP Amoco	UK	5.415	19486680	1.76	168.37	2.46
American International Group Inc.	USA	107.625	1548241	3.18	166.63	2.44
SBC Communications	USA	43.063	3411379	-1.15	146.9	2.15
Merck & Co.	USA	61.750	2337422	-1.79	144.34	2.11
Hewlett-Packard Co.	USA	142.375	1001493	-3.31	142.59	2.08
British Telecommunications	UK	12.640	6506713	2.82	131.23	1.92
Royal Dutch Petroleum	Swi	59.000	2144296	1.7	123.67	1.81
MCI Worldcom Inc.	USA	42.672	2838345	-0.62	121.12	1.77
Coca-Cola Co., The	USA	47.000	2469980	-1.31	116.09	1.7
Morgan Stanley,Dean Witter & Co.	USA	95.813	1136881	1.12	108.93	1.59
Hsbc Holdings	UK	7.725	8458658	4.75	104.27	1.52
Allianz AG	Ger	418.500	245270	3.26	100.34	1.47
Johnson & Johnson	USA	71.250	1391649	-10.94	99.15	1.45
Novartis AG (Namen)	Swi	2188.000	72130	2.7	97.22	1.42
Siemens AG	Ger	165.300	594841	5.15	96.11	1.4
Bank of America Corp.	USA	54.438	1707184	0.46	92.93	1.36
Bell Atlantic Corp.	USA	59.500	1552786	-0.21	92.39	1.35
Disney (Walt) Co.	USA	41.500	2069931	-0.3	85.9	1.26
BellSouth Corp.	USA	44.688	1881844	0.85	84.09	1.23
Roche Hldg AG (Drc)	Swi	19310.000	7026	1.18	83.57	1.22
Chase Manhattan Corp.	USA	96.188	824777	-2.35	79.33	1.16
Nestle SA (Namen)	Swi	2989.000	40352	2.73	74.3	1.09
Procter & Gamble Co.	USA	56.438	1315714	0.56	74.26	1.09
DaimlerChrysler AG	Ger	70.200	1013733	3.45	69.56	1.02
Bank of Tokyo-Mitsubishi Ltd.	Jap	1441.000	4675455	2.12	63.07	0.92
Lloyds TSB Group Plc	UK	6.650	5475337	5.79	58.1	0.85
Du Pont (E.I.) De Nemours & Co.	USA	54.813	1052473	-0.11	57.69	0.84
UBS	Swi	431.500	215289	2.69	57.22	0.84
Chevron Corp.	USA	85.625	656266	1.18	56.19	0.82
Credit Suisse Group (Namen)	Swi	331.000	273838	3.9	55.83	0.82
ING Groep N.V.	Net	56.790	996677	0.32	55.33	0.81
General Motors Corp.	USA	85.375	640208	-1.87	54.66	0.8
Ford Motor Co.	USA	44.688	1137033	0.42	50.81	0.74
AXA	Fra	144.600	356336	-0.97	50.37	0.74
Morris (Philip) Cos.	USA	19.813	2314476	1.28	45.86	0.67
ENI	Ita	5.020	8002128	0.47	39.27	0.57
Boeing Co., The	USA	36.000	934540	2.49	33.64	0.49
Unilever Nv (cva Ntfl4)	Net	48.780	571576	1.78	27.25	0.4
Total Market Cap	6,840,601,637

Momentum Investing (NY Times 2001) This article from Mark Hulbert describes how you could invest in the "best" funds as identified in a newsletter. "Specifically, we will assume that every Jan. 1, you started following the model portfolio of the investment ne¬M�

The strategy might somehow work better, they contend, for advisers like mutual fund managers.

They are right, but only to a point — and not by enough to make it worth following. Consider one hot-hands strategy that has modestly beaten the market — investing in the previous year's top performer among the Fidelity Select sector funds. Over the last decade, that approach would have gained 24 percent a year, on average, versus 17.4 percent for the S.& P. 500. But it would have been very risky — nearly three times riskier than the overall market, as measured by relative volatility."

S&P??: (2001) In 1999, only 33% of mutual funds were able to beat Standard & Poor's (S&P) 500. In the year 2000, over 72% of all mutual funds managed that task. Nearly half of all funds managed to outgain the S&P 600 Small Cap index in 1999. In 2000, a mere 16% managed the task. Includes in-depth charts and comparisons of mutual funds to their respective asset class indexes. Issues article by Jim Wiandt.

Real Estate ETF (2001) The first exchange-traded fund that tracks a Real Estate Investment Trust (REIT) index began trading on the American Stock Exchange on Friday, 2/2/2001. The new ETF was launched by Barclays Global Investors (BGI) and is called the iShares Cohen & Steers Realty Major Fund (trading symbol: ICF). The fund will track a modified cap-weighted index of 30 REITs, and has an expense ratio of 0.35%. News article by Index Funds staff.

Are Stock Option Rescissions an Unfair Benefit? (2001) When the tech-stock bubble burst last year, a number of companies allowed key employees to cancel previous options-based stock purchases that had left them with deep losses. The implications of such favoritism are troubling enough that the SEC - not to mention shareholder activists - are taking a closer look.

Experience (Morningstar 2001) The typical manager of a stock mutual fund today has an average of 5.7 years of experience at the helm, according to data from Morningstar Inc. Bond-fund managers have slightly more, 6.6 years

HIGH: The Nasdaq's 57% drop from its March 2000 high ranks as its second-worst bear market, and at 1 year old, it is tied as fourth longest. On average, it took the Nasdaq 2 years to recover to its old high in past bears. In the most extreme case — the record 1973-74 bear — the recovery took 5 years and 8 months.

Momentum Investing: In an article in the October 2000 issue of the Journal of Finance, Charles M.C. Lee and Bhaskaran Swaminathan presented their findings on a study examining whether past returns and past trading volumes had predictive value in terms of future returns. Past trading volume predicts both the magnitude and persistence of future price momentum. In the intermediate-term, a strategy of buying past high-volume winners and selling past high-volume losers outperforms a similar strategy based on price momentum alone by 2% to 7% per year. In the long-term, a strategy of buying low-volume winners and selling high-volume losers exhibits return continuation up to three years, while a strategy of buying high-volume winners and selling low-volume losers exhibits return reversals in years two and three. These findings are consistent with behavioral models in which stock prices initially underreact, but ultimately overreact, to fundamental news. In this context, past trading volume provides information about the level of investor interest, and indirectly, about the imminence of price reversals.

Here’s a revealing snapshot of S&P 500 performance following "Negative Return Years" 2001

Given recent increases in the use of stock options by both “new economy” and “old economy” companies, one might reasonably expect that employees – the beneficiaries of this perk - understand how options work. But according to recent research by Wharton professors David Larcker and Richard Lambert, employees tend to be relatively uninformed as to the basic economics of stock options, a finding that has important implications for employers, boards of directors and management consultants.

Stock prices will fall?: 2001 Stock prices could thus fall substantially after the boomers retire since the demand that kept prices high will no longer exist. Full article from Wharton

Do stocks always win? (2001) If you take a really long period, the variability of returns smooths out any distortions in stock returns. But if you look at shorter periods (say 1973/74), things are not so rosy. Read this article from Evanson.

UP or DOWN and for How Long? (2001) "If an investor entered the market during the last century when the Dow was one standard deviation above its long-term trend line - an exuberant bull market top - how long did they have to wait? For an investor who got in at the top in 1929, it took until roughly 1960, in inflation adjusted returns, to merely break even on his investment. At the next big bull top in 1968, it took until the early 1990s to break even - or about 25 years. Also, these are simply break-evens after inflation, a 0% return. These figures do not include dividends (data from Siegel, p. 59). Leuthold (InvestmentNews, 5/21/2001) notes that an investor at the peak in 1929 took until August 1998 - almost 69 years - to reach a nominal return of 10% on his money, including dividends. After inflation, this is a yearly return of about 7%. It took investors 69 years to reach the long-term expected return from stocks.

In addition, from its peak in 1929, our long-term investor had to endure an 86% decline in the value of his portfolio to its low in July 1932. The Dow Industrials holds some of America's largest and financially soundest companies, and cannot be considered an aggressive or speculative part of the stock market. Yet, investors choosing this relatively conservative sector would have required extraordinary nerves, and several decades to achieve average long-term stock returns on their investment, far more than can be realistically expected."

Efficient market theory: (2001) Supposedly every element about a company is known instantaneously by all entities at all times. So nobody gets any better benefit in analyzing a stock or getting a better price. But a study shows that, city by city stock markets rise more often on days when the sun shines in the morning than when skies are overcast. The study, "Good Day Sunshine: Stock Returns and the Weather," is by two finance professors, David Hirshleifer of Ohio State University and Tyler Shumway of the University of Michigan.

Returns: And more idiocy: Among investors offering a prediction for the market's return over the next 10 years, 39% said stocks would deliver 15% a year or more, according to a survey from Gallup Organization and UBS PaineWebber.

Investors are overconfident," says Meir Statman, a finance professor at Santa Clara University in California. "They think that they'll earn more than the market. They all think they're above average."

Admittedly, the 15 years though year-end 2000, stocks gained an average 16% a year, while bonds earned 8.6%.

You can divide the past 75 years into 61 rolling 15-calendar-year stretches, starting with the 15 years through year-end 1940, continuing with the 15 years through 1941, etc.

Out of these 61 rolling periods, there were just 13 occasions when stocks generated 16% a year or more, (Ibbotson Associates). Most of these 5-year stretches ended in the late 1950s, the early 1960s and the late 1990s.

You can divide the past 75 years into 61 rolling 15-calendar-year stretches, starting with the 15 years through year-end 1940, continuing with the 15 years through 1941 and so on.

Out of these 61 rolling periods, there were just 13 occasions when stocks generated 16% a year or more, according to Chicago's Ibbotson Associates. Most of these dazzling 15-year stretches ended in the late 1950s, the early 1960s and the late 1990s.

The people alleging 15% returns are not above average. They are universally stupid. You cannot say you know anything about securities as an element of sophistication unless you already knew the answer to this, "How many stock do you have to have in a portfolio in order to insulate it due to unsystematic risk?"

For the record, I have never used more than a 10% return for stocks for any analysis I have EVER done. Measuring 20 stock market peaks since 1900, one finds that it took a median of 14.8 years for the investment made at the peak to reach an ACR of 11%. If you invested money at the 1956 market peak, it took 41 YEARS before your annual compound rate of return (ACR) reached 11%.

Year	Liquidations
1990	33
1991	40
1992	9
1993	12
1994	52
1995	156
1996	170
1997	141
1998	222
1999	166
2000	225
2001 through 3/31	40

Load Funds do better? 60 percent of all mutual fund assets remain invested in load funds. (NY Times) Past academic studies have shown that the average load fund manager performs no differently than the average no-load manager. That is already bad news for load funds, because it removes the performance-based justification for investing in them.

But recent studies note that even before the impact of loads, the average load fund underperforms the average no-load. After loads are taken into account, needless to say, the average load fund lags far behind.

A 1996 study by Mark Carhart examined all domestic diversified equity mutual funds from January 1962 to December 1993. Little noticed at the time was Mr. Carhart's discovery that the average load fund lags behind the average no-load by approximately 60 basis points a year, even before loads are taken into account — equivalent to more than 6 percent over a decade. (See, "On Persistence in Mutual Fund Performance," appeared in the March 1997 issue of the Journal of Finance.)

The first is a statistical flaw known as survivorship bias. This creeps into any mutual fund research that focuses only on funds that exist today (the "survivors") and ignores those that have gone out of business over the years (the "nonsurvivors").

Serious as survivorship bias is, it still would not have affected comparisons between loads and no-loads if not for the fact that more load funds go out of business than no-loads. In fact, according to Mr. Carhart's study, more than 90 percent of funds that went out of business from 1962 to 1993 were charging either a front-end or a back-end load at the time they disappeared.

If these two studies had not corrected for survivorship bias, we might not have known that the typical load fund underperforms the no-load. But now that we know, we face another mystery: Why hasn't the intense competition among mutual funds for investors' assets removed this performance difference?

At least two factors are involved, both revealing much about the psychology of investing.

The first is that the payment of a load discourages investors from switching to another fund. That, in turn, helps to immunize inferior load funds from the redemptions that equally inferior no-load funds would experience. As a result, load funds are relatively invulnerable to the competitive pressures that otherwise might eliminate the performance difference.

How much more reluctant are load-fund investors to switching? One gauge is the average time that investors hold on to load and no-load funds. According to Dalbar, a financial research firm based in Boston, the average load fund investor in 1996 held on to his equity fund for 3.2 years, in contrast to 2.9 years for the typical no-load fund investor.

Undoubtedly, many psychological motivations influence load-fund investors to hang on to their funds. Maybe some investors see load funds as well worth the extra cost, because of the help they receive from the sales representative. If so, it would take poor performance over a sustained period to persuade investors to switch.

But investors are often reluctant to switch even if they place no value on the hand-holding they receive and even when their fund is a poor performer. This is because of cognitive dissonance, a universal psychological trait that makes us loath to acknowledge our mistakes — even to ourselves. Load- fund investors thus hold on longer than they would otherwise in order to avoid the painful realization that the money paid to the fund's sales representative was a total waste.

A second factor is related to the first. Load-fund investors' reluctance to switch has helped them at the same time that it has hurt them: They tend to have a higher average exposure to equities than do no-load investors, whose frequent switching leads to a higher exposure to cash.

The resulting benefit to load-fund investors is significant. According to Dalbar, the average equity investor in load funds from 1984 to 1996 made 118.8 percent, in contrast to 113.9 percent for the average no-load fund investor.

In other words, despite the lesser performance of the average load fund, average load fund investors are making more money. As a result, they are probably not aware that they could have made even more by investing in no-loads — if, of course, the absence of loads didn't tempt them into moving their money around.

But as is the case with most psychological hang-ups, consciousness is a big step toward change. When no one knew that the average load fund lagged behind the average no- load, investors had no motivation to find an alternative source of discipline. Now that we know, and given the magnitude of some funds' loads, investors have a powerful incentive to find a way to behave more like a load-fund investor while investing in a no- load fund."

Stock options are a boon to shareholders because they motivate management and align the interests of investors with those of executives. Oh really? (NY Times 2001) "The greatest damage to this theory has been done by companies that reduce the strike prices of their stock options after their shares have plummeted. Option repricings, as they are called, are quite simply a gift to management and workers that outside shareholders do not receive.

Companies that reprice their options have typically argued that doing so is necessary to keep treasured executives from leaving for sweeter packages elsewhere. Implicit in this argument is the belief that an exodus of executives would hurt the company."

But research by Catherine M. Daily, S. Trevis Certo and Dan R. Dalton at the Indiana University's Kelley School of Business indicates that companies that reprice options actually show higher levels of executive turnover later. More important, the study found no evidence that the repricing of options was associated with improvement in the financial performance of the company.

They found that in the first year after a repricing, chief executive turnover at the companies was 16.3 percent, versus 4.7 percent at companies that had not repriced. By the end of 1998, companies that had repriced options clocked chief executive turnover at 25.5 percent. Those with no repriced options had turnover of 10.5 percent.

Yet the Investor Responsibility Research Center reports that 59 companies repriced options this year, as of June 15. That was far higher than the 31 that repriced in all of 2000, but down from the 312 that did so in 1999."

Jeremy Graham: (2001) People ask what is going to happen next year, and I say I haven't the faintest idea. In general, the short term is unknowable and in an uncertain world, it should be unknowable. Think of yourself standing on the corner of a high building in a hurricane with a bag of feathers. Throw the feathers in the air. You don't know much about those feathers. You don't know how high they will go. You don't know how far they will go. Above all, you don't know how long they will stay up. You know canaries in Jamaica end up in Maine once in a blue moon. They just get swept along for a week in a hurricane. Yet you know one thing with absolute certainty: Eventually on some unknown flight path, at an unknown time, at an unknown location, the feathers will hit the ground, absolutely, guaranteed. There are situations where you absolutely know the outcome of a long-term interval though you absolutely cannot know the short-term time periods in between. That is almost perfectly analogous to the stock market.

Fear and Greed and a whole mess more (WSJ 2001) In context with the quote above, Clark Winter noted that "During the transition from one emotional point to the next, various investments become attractive. For example, after a market meltdown -- like the one of the past year -- investors become afraid of incurring further losses, so they seek out value stocks and other securities seen as ''safe havens.'' When the investment outlook brightens and a feeling of safety emerges, people start wanting higher-than-average returns, so they turn to growth stocks for this opportunity. Finally, as investors clamor for even fatter returns -- just before greed kicks in -- momentum stocks are in favor.

And this is a very good comment from Brad Elman called "'investing 'evangelism.'' In the rush to go public, launch a startup or create a new product, ''companies were buying employees T-shirts, leather jackets and nice pens with the companies' names on them. People were inundated with the message that their company was it

And Bob Dreizler says the most irrational cases he encounters involve someone who refuses to sell a stock simply because a parent or grandparent owned the investment. I have seen that happen a lot- and I have seen almost all of them underproduce the market.

There is no such thing as emotion in investing. It's just a lot of reading and research- with specific attention to economics. Otherwise, you are just kidding yourself.

Reversion to the Mean: (2001) to revert to its 50-year average return of 8%, the Dow would have needed to drop 46% in 2000 from its 1999 close (it fell 6%) or post zero gains for 8.5 years.

The stocks analysts rated "buy" or "strong buy" in the last three years had far more risk than the average stock. (WSJ 2001) The average return on the stocks that the analysts rated as holds was greater than the buys and strong buys. The holds also turned out to be less risky.

The highest rated stocks, the strong buys, returned 12.5%, the buys returned 12.1% and the holds returned 12.8%.

The stocks that got the highest ratings in March 1999 soared 66.8% over the next year. But once the bubble popped, the risk surfaced. The stocks with the highest recommendations in September 2000 lost 16.7% through June, the last month for which data are available. The holds gained 8.6% in that period.

Convertible Securities: (WSJ 2001) Convertibles are securities, including bonds and preferred stock, that can be swapped into common stock under certain conditions. In essence, they give investors the opportunity to get a bond-like return and still reap benefits if a company's share price soars.

How have convertible securities performed for investors? So far this year, convertible-securities funds have lost an average of 7.93%. Over the past five years, these funds have returned an average of 10.1% annually

Emerging markets: (2001)They may end up doing well, but the problems now overwhelm the upside (NY Times) Even with huge rallies from time to time, the leading index of emerging market stocks is off 43.3 percent since 1993, in dollar terms, and 29 percent in the last year. The last decade is replete with crises that have reduced or erased gains from previous years, like Asia's financial collapse in 1997, Russia's devaluation of the ruble in 1998, Brazil's devaluation in 1999, Turkey's this year, and Argentina's struggle to avoid default on its debt and devaluation of its currency.

Fund fees: (Fitzrovia International 2001) Annual mutual-fund fees have increased by about 10%, compared with a rise of 1% in 1999. More than 25,000 funds it monitors world-wide, 530 increased their management fees last year compared with 450 in 1999.

Mutual Funds (NY Times 2001) In 1999, there were 10 mutual funds that performed the best in a great year for stocks. All the funds more than tripled in value during the year, and the best of them leapt nearly 500 percent. Most of the funds were small and had little in the way of a track record; for four of them, 1999 was their first full year. Nine of the 10 funds have lost at least two-thirds of their value since 1999, and the 10th is down almost 50 percent. Over the same period, the Standard & Poor's 500-stock index fell 29 percent, while the Nasdaq composite lost 63 percent of its value.

Most of the big winners in 1999 were funds that were willing to enthusiastically embrace the new economy and to ignore traditional valuation parameters. These funds bought new issues, particularly of Internet companies.

Your experiences can lead to specific behaviors that harm your wealth. For example, you are prone to attribute past investment success to your skill at investing. This leads to the psychological bias of overconfidence. Overconfidence causes you to trade too much and take too much risk. As a consequence, you pay too much in commissions, pay too much in taxes, and are susceptible to big losses.

The attachment bias causes you to become emotionally attached to a security. You are emotionally attached to your parents, siblings, children, and close friends. This attachment causes you to focus on their good traits and deeds. You also tend to discount or ignore their bad traits and deeds. When you become emotionally attached to a stock, you also fail to recognize bad news about the company.

When taking an action is in your best interest, the endowment bias and status quo bias cause you to do nothing. When securities are given to you, you tend to keep them instead of changing them to an investment that better suits your needs. You also procrastinate on making important decisions, like contributing to your 401(k) plan.

Emotions get in the way of making good investment decisions. For example, your desire to feel good about yourself—seeking pride—causes you to sell your winners too soon. Trying to avoid regret causes you to hold your losers too long. These emotions have the consequence that you sell stocks that are performing well and keep those that are performing poorly. This hurts your return and causes you to pay higher taxes.

When you are on a winning streak, you may feel like you are playing with the house’s money. The feeling of betting with someone else’s money causes you to take too much risk. On the other hand, losing causes emotional pain. The feeling of being snake bit causes you to want to avoid this emotional pain in the future. To do this, you avoid taking any risks by not owning stocks at all. However, a diversified portfolio of stocks should be a part of everyone’s total investment portfolio. Experiencing a loss also causes you to want to get even. Unfortunately, this desire to get even clouds your judgment and induces you to take risks you would not ordinarily take.

So that you can avoid feeling bad about previous decisions that didn’t turn out well, your brain filters the information you receive. This process, called cognitive dissonance, adjusts your memory about the information and changes your recollection about your previous decision. Obviously, remembering inaccurately will reduce your ability to evaluate and monitor your investment choices properly.

Finally, the brain uses shortcuts to reduce the complexity of analyzing information. These shortcuts allow the brain to generate an estimate of the answer before fully digesting all the available information. For example, the brain makes the assumption that things sharing similar qualities are quite alike. Representativeness is judgment based on stereotypes. Additionally, people prefer things that have some familiarity to them. However, these shortcuts also make it hard for you to correctly analyze new information and can lead to inaccurate conclusions. Consequently, you put too much faith in stocks that are familiar to you or represent qualities you desire.

The self-control problem can be thought of as the interaction between your two selves—the planner and the doer. The doer wishes to consume now instead of later and to procrastinate on unpleasant tasks. The planner wishes to save for later consumption and to complete unpleasant tasks now. This conflict between desire and willpower occurs because you are influenced both by long-term rational concerns and by emotional factors that are more oriented toward the short term.

Most people want to maintain self-control and implement decisions that provide benefits over the long term. However, you often recognize that your desire is stronger than your willpower. Therefore, you may employ many techniques to help your willpower. I categorize these techniques into two groups: rules of thumb and environment control. These techniques help you to reduce desire and increase willpower.

For example, if you like to trade actively, you may realize this behavior is not optimal in the long term. As a compromise between the two selves (the planner and the doer), you open two brokerage accounts. One is for the majority of your wealth to implement a long-term buy-and-hold strategy while the other is used to have fun. Of course you could leave it all in just one account and actively trade only a small portion of your overall wealth, but it might require too much self-control to do that. Having two accounts give you a better chance of learning self-control.

Perhaps instead of handling your self-control problems by controlling your environment, you may have gone to the other extreme. Online traders are using information obtained in chat rooms to make investment decisions. These decisions are usually irrational because they are spur-of-the-moment decisions based on rumor, not information.

Tech stocks (WATTS 2001) They studied 1,900 tech companies back to 1995 and found that only 3.4% of the companies whose stock price plunged to single digits rebounded to $15 or higher within a year. .

Of the 437 com-companies that plunged to single digits in 2000, only 5- 1.1%- have rebounded in 2001 (and that was as of July 2001)

PCI Deflator: (2001) the PCE deflator is derived from the CPI data but is calculated differently, using a complicated system known as the chain-weighting method. The deflator is a better cost-of-living measure because it more accurately reflects consumers' changing purchases of goods and services.

The CPI seeks broadly to measure how much more it costs to buy the same basket of goods now compared with a year earlier. In the PCE deflator, on the other hand, the weights of items in the basket change each year, to reflect how people shift their spending towards cheaper goods.

If the price of apples rises, people buy more pears. The CPI thus tends to overstate inflation. But the PCE may understate it, because it assumes that shifts in spending in response to the higher prices of some goods do not lower consumers’ standard of living.

The CPI also gives twice as much weight (20 per cent) to changes in the price of owner-occupied housing. But in both measures this price is based on the cost of renting a similar property, using a method that many economists reckon is distinctly dodgy.

Not everybody within America’s Federal Reserve System loves the PCE as much as Greenspan.

Above all, the Fed’s critics emphasise one big difference between America’s CPI and that in most other countries: the increasing use of `hedonic’ pricing methods to strip out the effects of improvements in the quality of home computers, cars, clothes, televisions and so on. Hedonic pricing breaks down a product into its key features —say, the memory and speed of a computer —and then assigns prices to those features rather than to the product as a whole. This allows price rises due only to higher quality to be knocked out of the index.

Years	PCE Deflator	Gold

1986-91	4.3%	$402
1991-95	2.5%	$367
1996-99	1.5%	$323
'96	1.6%	$388
'97	1.4%	$331
'98	1.5%	$294
'99	1.5%	$279

As the table indicates, the consumer price deflator has been rock steady over the past four years, averaging only 1.5%. Virtual price stability (cyberspace e-commerce price declines are not yet recorded).

Explaining the Tax Advantages of ETFs: (Jim Wiandt and Will McClatchy 2001) For all the talk that ETFs are more tax-efficient, there's rarely a detailed explanation of exactly why this is so. As a result, many investors do not truly understand the tax benefits and liabilities of ETFs.

* Consumers want to believe that the professionals can perform the services they are hired to do. Too often in the domain of financial advisors, even those with CFP’s or CPA’s, this is not the case.

The consulting communities’ simple asset allocation policy solution for institutional investors can be challenged on several scores. Why should investors expect that the past relationships between return and short-term volatility are good estimates for the future? Why should institutional investors be overly concerned about market volatility in returns when setting their long-term asset allocation policy? Why shouldn’t the asset allocation policy be adjusted if asset class return expectations change?

In addition to the proposed regs, the IRS has also issued Notices 2001-72 and 2001-73, which provide "rules of administrative convenience" that will help employers comply with the new regs. Specifically, Notice 2001-73 concerns the payment of FICA and FUTA taxes, while Notice 2001-72 addresses income tax withholding on "disqualifying disposition[s]" of stock received from the exercise of qualified options. (Note: Both Notices will be published in Internal Revenue Bulletin 2001-49 on December 3, 2001.)

The regs, when made final, will apply to statutory stock options exercised on or after January 1, 2003. However, employers would be permitted to apply the final regs to options exercised before that date if they so choose.

Class-action suits charging IPO abuses could cost Wall Street firms up to $5 billion to settle. (WSJ 2001) This year, more than 1,000 suits have been filed on behalf of shareholders in 263 companies that went public during the heyday of high-technology IPOs. Losses alleged in the suits amounted to between $10 billion and $50 billion. The allegations generally track regulatory probes into whether brokerage houses broke securities laws by manipulating stock prices by requiring customers who received shares in an IPO to place so-called aftermarket orders for additional shares at higher prices, a practice known as "laddering."

A series of variables is entered into a plan, including assets, asset allocation, and cash flows, ending value.

A simulation generates many different returns, randomly selected for each simulation, or lifespan.

At the end of each simulation, the returns are calculated and an ending value is determined.

The process starts again with a new "life" and generates another set of unique returns for each time period.

A "probability of success" is calculated at the end of all simulations according to the number of times a client accomplished the goals set out in the plan .

Just another reason why humans cannot buy stock- (NYTimes 2001) The Securities and Exchange Commission on Tuesday warned companies to stop misusing pro-forma earnings, saying the practice can mislead investors. They can

• Contain alternative calculations of financial results. For instance, the use of "earnings before interest, taxes, depreciation and amortization," commonly called EBITDA, is problematic because it leaves out key costs.

• Leave out "unusual or non-recurring transactions." Such reports are suspect unless specifics are given on the omitted transactions.

• Vary wildly from the official results. If a firm that lost money based on official accounting rules reports a pro-forma profit, the company's unprofitability is covered up.

Overconfidence (Belsky, Gilovich 2001) "We're not talking specifically about conscious arrogance, although overconfidence might certainly manifest itself in such out and out hubris. It's not so much that some folks think that they are especially gifted and some folks do not, although that is certainly true. Rather, what research psychologists have discovered about overconfidence is that most people- those with healthy egos and those in the basement of self esteem- consistently overrate their abilities, knowledge and skill, at whatever level they might place them."

Risk Free Rate: (William Bernstein 2002) Financial economists like to talk about the risk-free rate: basically, the time value of money sitting in a perfectly safe vehicle. From an historical perspective per se, the very use of the term is fascinating. After all, it implies a society that is strong and stable enough to support a risk-free investment. Living in what is likely the most secure political, social, and economic environment ever seen on the planet, we take the existence of a "risk-free investment" for granted. But this is not always the case.

Was high- now low?: (Larry Swedroe 2002) The last half of the twentieth century was a golden era for US equity investors. From 1950 through 1999 the S&P 500 Index produced annualized returns of 13.6% per annum, or a real rate of 9.2% per annum. Even more impressive are the returns of the last quarter of that century. From 1975 through 1999 the S&P 500 Index produced an annualized return of 17.2%, and a real rate of return of 11.8%. That is the good news. The bad news is that for today’s investors the result of those great returns is that today future expected returns are now much lower.

Common Determinants of Bond and Stock Market Liquidity: (2002) The Impact of Financial Crises, Monetary Policy, and Mutual Fund Flows l (Tarun Chordia, Asani Sarkar, and Avanidhar Subrahmanyam) The authors study common determinants of daily bid-ask spreads and trading volume for the bond and stock markets over the 1991-98 period. They find that spread changes in one market are affected by lagged spread and volume changes i