Math! (Boring. Actually, I use OpenOffice)

Yesterday, Nate Silver posted an article as a ‘pre-buttal’ to the inevitable complaints of conservatives audited in the last few years (yes, many conservatives and liberals will be randomly chosen per year).  Turns out, a number of prominent conservative donors – some prominent only because they appeared in Democratic campaign material (in one example, directly from the President’s campaign!).  Coincidentally, or not, some of those conservatives ran into some major hassles from government agencies.

Let’s talk about one of those cases – the case of a large Mitt Romney donor, Frank VanderSloot.

VanderSloot donated $1,000,000 to Romney aligned groups, earning him the dubious honor of showing up in some late April 2012 campaign material from President Obama’s reelection campaign.  I’ll let Kim Strassel of the WSJ tell you the rest:

Twelve days later, a man working for a political opposition-research firm called an Idaho courthouse for Mr. VanderSloot’s divorce records. In June, the IRS informed Mr. VanderSloot and his wife of an audit of two years of their taxes. In July, the Department of Labor informed him of an audit of the guest workers on his Idaho cattle ranch. In September, the IRS informed him of a second audit, of one of his businesses.

Now, Nate Silver said we can’t be sure any conservatives were targeted by the IRS since the audit rate on people with incomes over $1,000,000 is 12% (let’s ignore the oppo research action – but yes, that’s messed up).  Great hand-wavey explanation, but unless you assume in Mr. VanderSloot’s case that all of these events were related the math is way different than Silver implies.  I think it’s a fair assumption that the IRS and the Department of Labor won’t coordinate too – a spokesman for the IRS even says it in this article about the case.

Here’s the math if these events were unrelated:

12% chance of a personal audit (from IRS data) x  17.8% chance of a large company audit (I’m assuming Malaeuca is the company targeted) x .39356%* = .0084% chance of VanderSloot’s woes, assuming everything is random.

How we describe our population is tricky… not all our $1,000,000 earners will have a large business with over $500,000,000 in revenues (although some will).  Let’s generously assume they all do – so 337,477 millionaire tax returns times a .0084064416% chance of the triple audit.  So that’s low – but I’m being generous here.

So, yes, using my quick math  – I estimate around 28.4 returns a year will have the triple threat of audits from the IRS, the IRS and the Department of Labor.

Now, these next factors had no bearing on a fair odds calculation – but they lend credence to a political motive… How many of those end up with no enforcement action (VanderSloot claims that the IRS owed him after the audits!)?  How many involve donors specifically called out by a Presidential candidate?

Look – I think it’s disgusting when public figures with immense power “punch down“, so to speak.   I don’t have time right now for a privacy dissertation, but I don’t think large donations to a politician should inspire the opposition to publicize names of donors… not public figures… to millions of followers.  Respond in kind – but yes, we know it’s easy to escalate if you’re a President or a Comedian or a Radio Host or a (insert person with followers here).

*My math on Department of Labor Enforcement: I’m being generous here since I’m including all actions to emulate audits (EBSA Plan Administration, OFCCP Evaluations, OFCCP Investigations, and WHD Cases – basically, I’m only un-checking inspections), but I count 39,356 enforcement actions in 2011-2012 on roughly 10 million employers covered.  Yeah, it’s not evenly distributed – you might have an audit with some follow up (resulting in multiple events), but it’s fair to say your odds of a single year audit from the DOL are around .4%

Links We Liked!

• Who knew?  Energy levels might dictate our 1 dimension of time and 3 dimensions of space.  In a few billion (trillion?) years we might have another space dimension to play with!
• How does a high earning female affect males?  Read the abstract (or the full study).  The effects are different if the female is in a relationship or is single.
• Are we in another bubble, in potentially all asset classes?  Bloomberg doesn’t know.  Burbed, on the other hand, has some more great evidence that the Bay Area is getting kinda frothy!
• Mr. Money Mustache had an interesting article on constant optimization – and a realization that many (most?) people just don’t want to change their finances.
• Cracked hits one out of the part (adult language) with 6 Reasons Good Bands Start to Suck.  I wan never a huge metal fan, but I can dig the argument…  Oh, and if you aren’t going to visit?  Just do it for the Bono art.
• Nelson at Financial Uproar runs a screen to find out which businesses are trading for less than cash… and is going to see if they ‘beat the market’, so to speak.  According to my co-writer, statistical rigor in the stock market will require around 40 years of trades… so he’s in it for the long haul!
• A $7,000 online Master’s Degree from a well-ranked college (Georgia Tech)?  Wow – if this takes off, I might add a few more pieces of paper to my wall!
• Evan at My Journey to Millions has become a nihilist!  (“Oh, that must be exhausting”).  Well, at least with money topics.  I hear you, my friend – it’s harder to talk about finance cold than to a receptive audience.
• Our pal Makin’ Sense Babe pulls the mic off a camera (read: it won’t work) for a hilarious interview with people on Muscle Beach about what “Don’t Fight the Fed” means.  Last time I was there I considered buying one of those Sweatshirts with cut-off arms – because, irony.

Links to Us!

• Carnival of Wealth
• Carnival of Financial Independence
• Yakezie Carnival
• Financial Uproar

Look! A sucker!

Ed: Whoops, forgot 5/5 with a missed Powerball in the subprizes.  Shows what I know about how the Powerball works, eh?  It’s still a bad idea.  Numbers Revised!

Hey everyone, it’s your favorite lottery killjoy PK!

I’m here to debunk a silly theory we’ve seen floating around the internet – that goes like this… The 5/18/2013 Powerball drawing will be $600,000,000, and odds to win are 1/175,000,000 – so each $2 ticket is worth $3.42!

Wrong.

And we’ll show you how using the somewhat simple math.  The people at Powerball are smart – smart enough they aren’t going to run a lottery expecting to lose money.

We previously discussed the expected value of the record shattering Mega Millions drawing (negative), then built a calculator so you can do the math on arbitrary drawings.  Recently we talked about how people have beat the lottery – but, not surprisingly, the proven cases generally came from smaller state level lotteries… not country-wide lotteries vetted by tons of auditors and actuaries.

Buying Powerball Tickets For This Drawing is Like Throwing Away at Least 50 Cents

We’ll get to our math in a second – but, sorry to say, there isn’t a positive expected value on Powerball tickets, no matter what news organizations are implying.

Long story short:

Your expected value is around $1.46.

Your ticket will cost $2.  That’s a negative expected value.

And, oh yeah – you’ll be taxed on your winnings – so that $1.46 might be $.80 or less!  Buy some S&P 500 Index Funds… trust me (here’s a historical calculator!).

Why is all the math wrong?  It all boils down to the number of people who will win.  If more than one person wins, the prize will be split equally amongst the winners.  However, the odds are actually much greater that either 0 or more than one person will win.  Here’s what we calculated:

Winners	Probability
0	18.0504%
1	30.9024%
2	26.4524%
3	15.0955%
4	6.4609%
5	2.2122%
6	0.6312%
7	0.1544%
8	0.0330%
9	0.0063%
10	0.0011%

The Boring Math Only 10% Of You Will Read

How did we get those?  We did it the same way as we did for the Powerball, but this time we’ll try to step through it quickly with our assumption of ticket sales.

The only jackpot approaching today’s $600 Million (actually, $376,900,000 Cash Prize – remember, it’s an annuity otherwise) was the 11/28/2012 drawing with the $587 Million nominal prize.  It sold 281,565,987 tickets.

Let’s assume 300,000,000 are sold.

Reproducing the distribution is easy, especially in a spreadsheet program!  Your Poisson number is 300,000,000 tickets sold * odds of winning (1/175223510), or 1.7121.  Now, simply take the odds of each (as shown above!), and multiply by what the jackpot would be in that situation for a single ticket.  So, 0 winners = $0, 1 winner = $376,900,000 * 30.9%, 2 winners = $188,450,000 * 26.5%, etc.  If you sum the expected prizes, you get $193,539,183.00… that’s the expected jackpot, folks.  That’s only $1.10 per ticket.

The smaller prizes are simple to calculate – they don’t split (and I’m not attempting to factor Power Play – this is my quick estimate folks; my sister is here, haha).  Just take straight odds, and you’ll get this table:

Add it up – around 17 cents of expected value.  Sum it up, and you’ve got $1.46 in expected value.

Sorry to Burst Your Bubble

Yeah, my bad.  Sorry to be such a curmudgeon… but if you all send me $2, I’m sure we could work out a deal where I send you each $1.46.  Bernie Madoff has nothing on me!

Does This System Have Predictive Value?

I’m going to go with… probably not.  Still, if a failed experiment about market predictions missed to the low side so often, perhaps you can use this data to your advantage?  Hear me out – let’s say that there is a trend here, and puts and calls tend to imply closing prices on the low side… that would mean you’ve got a chance there is underpricing for more optimistic trades.

Here’s what we’ve got this month:

And for puts…

Too Hard to Read?

Don’t worry, I’ve got you covered.  Here’s the above data in chart form (multiple by 10 to normalize the the S&P):

Good Luck!

Well, I’ll still be logging these predictions so I can eventually follow up on the predictions that I’ve derived from puts and calls… but I don’t look at this experiment as a reliable one for predicting market closes.  Nope… like I said above, I’m looking at it as a potential exploitable.

Let me know what you think… or if you can think of a way to scale or factor this data to improve predictive value… or, maybe, to predict where you can make money off the inefficiencies!

“First they came for the communists, and I didn’t speak out because I wasn’t a communist.

Then they came for the socialists, and I didn’t speak out because I wasn’t a socialist.

Then they came for the trade unionists, and I didn’t speak out because I wasn’t a trade unionist.

Then they came for me, and there was no one left to speak for me.”  -Martin Niemöller

Game, set, match… right?  Brevity is the key to good communication; you made your point, here’s a reference to Godwin’s Law?

Well, if it’s true that “The constitution stops where the Internal Revenue Code begins”, I think it’s worth examining why this is such an egregious violation of public trust.  So, with that in mind, let’s dive into why it’s so worrying that the IRS can (and will) target based on ideology… no matter where you fall on the political spectrum.

Let’s Back Up – What Did the IRS Do?

In a nutshell, the IRS recently issued an apology for unfairly targeting 501(c)(4) organizations which were formed with the words “Tea Party”, “Patriot” or “9/12″ in their names.  All of those phrases and words are overt or not-so-overt references to the Tea Party movement (generally a conservative movement) which gained prominence before the midterm elections in 2010.  Apparently all of this was directed by a field office in Cincinatti (As I went to press the story is changing… D.C. might have been involved).  Anyway, when the higher-ups got word, they apparently said to knock it off.

Did it stop?  Well, no – it got more sophisticated.  Instead of targeting groups based on words in their titles, they started targeting groups based on their objectives.  The objectives they targeted now were “political action type organizations involved in limiting/expanding Government, educating on the Constitution and Bill of Rights, social economic reform movement” (according to the soon to be released audit).  If you drew a Venn Diagram of groups wanting to limit Government growth and groups with ‘Tea Party’ in the title?  You’d have a circle.  That’s right – instead of knocking it off, they doubled down and made their targeting more sophisticated.

And why issue this apology now, more than 2 years after the policy started and 2 years after authorities at the IRS knew about it?  Well, because of the aforementioned audit.  Once it became obvious what the contents of the audit would be … well, an apology is better late than never.

The Political Response

Predictably, responses to the scandal have divided based on the source’s position on the right/left political spectrum.  From what I can seen, the major argument on the left is that 501(c)(4)s are being abused, so it’s too bad this will now hamper enforcement (see an example of the genre below).  It’s a nice dodge, but it doesn’t excuse the lack of targeting of groups associated with, say, Occupy Wall Street.  On the right?  Well, the IRS is being targeted, but also President Obama.  While IRS related scandals do smack of Nixon, and it’s true that Harry Truman established the buck stops at the President’s desk – I still think it’s premature and unfair.  The President was a little late in the news cycle with his outrage (Monday) at the IRS, but I won’t fault him for not commenting on a fluid situation until the weekend clarified things.  Another thing – the director of the IRS at the time, of course, was appointed by former President George Bush (43).  Hopefully (well, it’s a weird thing to hope for…) it stops at the field office in Cincinnati, but it’ll soon be borne out.

Sadly upshot of this scandal will be no scrutiny for anyone, rather than the across-the-board scrutiny c4s deserve.

Sadly upshot of this scandal will be no scrutiny for anyone, rather than the across-the-board scrutiny c4s deserve.

— Matt Yglesias (@mattyglesias) May 13, 2013

The political response is disappointing in a major way.  I sympathize with conservative complaints about being unfairly targeted – but I also have no doubt that if the parties were flipped, conservatives would be excusing the scrutiny in some way.  The biggest issue here is at the IRS, and the fact that low level agents in Cincinnati can make hugely disruptive policy changes to an organization as powerful as the IRS.

On Taxes and Discrimination

It’s funny, albeit in a sad way, to see people defending the policy on its face.  The aims of 501(c)(4) groups have certainly expanded a bit ever since Karl Rove (amongst others) started to form charitable groups with political aims a few years back.  However, targeting based on which politicians a group tends to help is crossing a bright line.

We already permit (and accept) IRS discrimination.  Think about it – the IRS disproportionately targets certain deductions like the home office deduction, and gives extra scrutiny to small business owners.  It pays special attention to people of great means who make many foreign transactions, especially with those who invest money overseas.  Why, because those people are more likely to cheat?  Well, no – not in reality.  Believe it or not, most tax cheating happens in a more modest part of the income spectrum – lower and middle income earners who deal with cash.  Think any tipped industry… the IRS claims that waiters and waitresses under-report their tips by a whopping 84%!

So why target people with home offices, small business owners and the like?  In the apocryphal words of Willie Sutton (on robbing banks), “that’s where the money is”.  Finding a few million unreported foreign earnings is worth a lot more than busting 50 waiters for pocketing tips.

So, yes – discrimination is great in an organization dedicated to collecting money when it is based on expected value, measured in money.  What isn’t okay is selective enforcement based upon the stated aims of a group following the same tax code as other groups.

Where to Go From Here

Well, (also predictably) conservatives asked for the IRS Commissioner at the time to step down.  The problem?  The IRS currently has no commissioner, as Douglas Shulman stepped down in November. Since there is no symbolic resignation that can happen now (other than the resignation of ‘low level field agents’), the IRS needs to make something clear:

• The Internal Revenue Service should only discriminate based on potential added revenue.  Just like with law enforcement and crime, it doesn’t take an 100% clearance rate to discourage tax cheating.
• The IRS shouldn’t discriminate based on political ideology (or for that matter, anything that doesn’t directly relate to revenue).  Nixon’s enemies list should have put an end to this, but recently IRS enforcement has been targeting conservatives.  (Here’s another example).
• The IRS is an enforced monopoly which obviously needs more checks and balances.  If low level field agents can wag the dog and enforce their biases and the organization only apologizes after an audit years later – well, in a phrase, “that’s not enough”.

The Most Likely Path

I’m more pessimistic than that.  This will probably just end up going down as a weird political story since the sides are mostly entrenched – a few more apologies, maybe some symbolic bills… then nothing for a while.

Remember, the IRS is the agency tasked with enforcing the details of the Patient Protection and Affordable Care act.  If the IRS is targeting politics today, will that be better or worse once they have access to medical data?  And it’s not just medical data – the bounds of IRS data collection are rapidly shrinking.

I’m hope I’m just a cynic – but when I run for president and a field agent leaks the details of my teenage acne treatment, and reveals my opponent’s long held prescription for Viagra… I’ll look prescient.

How would you change things?

]]> http://dqydj.net/why-everyone-should-care-about-the-irs-targeting-conservative-groups/feed/ 7 http://dqydj.net/why-everyone-should-care-about-the-irs-targeting-conservative-groups/ http://feedproxy.google.com/~r/DQYDJ/~3/zb0Iw7DRbQg/ http://dqydj.net/were-all-financial-professionals/#comments Mon, 13 May 2013 06:08:01 +0000 PK http://dqydj.net/?p=5023 Most personal finance sites (and DQYDJ is a personal finance site about 1/3 of the time!) have a disclaimer somewhere which states that we are not professionals when it comes to money and financial advisement.  It’s true – I have no formal qualifications that suggest that I have any special power or insight when it comes to increasing your net worth.

Taking an Active Look at Your Financial Picture

It’s funny, actually.

The only reason that you should listen to anything I (or Bryan – Cameron actually has an Econ degree) has to say is because of our track record.  Blogs and content driven web sites are perfect for this – consider that there is a public record of every time I made a forward looking statement and the result was completely different from my prediction.  A track record builds trust in a way a degree or a certificate or diploma hanging on a wall can’t in the digital age.

Back to the disclaimer…  It’s unfortunate that we look at finances as some esoteric subject inaccessible to the common man.  Truth is, money is a tool that all of us of sound mind have to deal with – it’s a tool we use in order to spend things we like or need, whether that spending happens now or in the future.  Here’s what I’m getting at – if the definition of ‘professional’ is ‘someone who makes money doing something’… well, then everyone has to be a “Financial Professional”.  You need to make money not using your own work… but using your money to make more money.

Stop Making Things Complicated

Canadian Pop Superstar! (Wikipedia)

“Why do you have to go and make things so complicated?” -Avril Lavinge Complicated

Avril’s right, you know.  The general public is altogether too disinterested in optimizing financial decisions, and the paucity of good advice makes it hard to find where to start down the road to (let’s call it) financial enlightenment.  This is why it’s difficult to talk shop to someone cold, and why it’s easier for sites to cater to repeat readers.  We try our best to not fall into this groove, so consider this piece, in part, an olive branch to anyone out there reading who just needs a little push to start getting their finances on track.

Truth is, personal finance is exactly as complicated as you make it.  When you come into the topic and instantly start wondering about the proper way to set a trailing stop loss, you’re doing it all wrong.  There is a set of fundamentals in finance – call it Personal Finance 101.  Once you’re through with those fundamentals, then you’re ready to start working your ways into the complexity of investing, lifestyle design, frugality, passive income, landlording, or managing your career.  Yes, there are many paths you can go on… but in the long run (as the song goes) there’s still time to change the road you’re on.  You know, just don’t skip ahead to a road you aren’t ready to travel.

So Start Today

We’ll soon write up our shot at a personal finance 101 back to basics type article.  We’ve heard people suggest making it a mandatory class in secondary school.  We think it’s actually too simple for that – and we’ll try to prove it by jamming doing it in a single article.  You see – we recognize that there is a “level one” of personal finance.  And you know what else?

It’s a very easy level to master.

]]> http://dqydj.net/were-all-financial-professionals/feed/ 5 http://dqydj.net/were-all-financial-professionals/ http://feedproxy.google.com/~r/DQYDJ/~3/M12sBmHd5Nk/ http://dqydj.net/the-dqydj-weekender-5112013/#comments Sat, 11 May 2013 16:53:26 +0000 PK http://dqydj.net/?p=5019

He’s going to be mad when I clean those up…

I don’t have a lawn right now – just a pile of leaves.  One member of the family doesn’t mind at all…

Links We Liked!

• Ironically, after engaging with our friends at Control your Cash and Hull Financial Planning about Timeshares (in the negative), we were followed on Twitter by a Timeshare company.  Kids, just say no!
• If only we had more resources (we’re jealous, you’ll see) we would have attempted something like this awesome map at How Money Walks about the income inflows and outflows (ie: migration between states and regions) as reported by the IRS.
• Nelson at Financial Uproar out frugals the frugal blogs with his list of top ten ways to be frugal.  For some reason, “steal things” didn’t make the list!
• Worried about Carbon Dioxide?  So was Russ George, but his team set out to pump excess CO2 into a ‘dead zone’ in an ocean eddy.  The result?  Massively increased biomass and a restored eddy.  Funny, those checks and balances, isn’t it?
• Mochimac at Save. Spend. Splurge. had a piece on the mindset of self-made millionaires.  She also commissioned (cost: free) us to make our millionaire calculator.  If you read our two sites, it won’t be long before you, too, join the millionaire ranks, eh?
• Want to burn the rest of your Saturday?  Check out this epic word-association map of music from Furia.  It’s awesome, believe me.
• On Monday, we posted about savings rates, and so did our friends at Boomer and Echo.  It’s true – great minds think alike.  However, our mind is little… so we aren’t referring to ourself here (although the minds at Boomer and Echo are certainly great!).
• As far as I know, Ironman at Political Calculations is one of the few still watching the embarrassingly slow recovery in the teen employment rate… which conveniently lines up with the last minimum wage increases.  Yes, we’re not fans of minimum wage (but we haven’t done our magnum opus negative income tax piece… yet), but this is a huge feather for the cap.

Links to Us

• The Carnival of Wealth
• The Carnival of Personal Finance
• The Carnival of Retirement
• The Yakezie Carnival
• The Yakezie Carnival
• Finance Carnival for Young Adults
• Financial Uproar
• Barbara Friedberg Personal Finance

]]> http://dqydj.net/the-dqydj-weekender-5112013/feed/ 8 http://dqydj.net/the-dqydj-weekender-5112013/ http://feedproxy.google.com/~r/DQYDJ/~3/CPeL1N9D1r0/ http://dqydj.net/may-8-2013-the-actual-all-time-closing-high-in-the-sp-500/#comments Thu, 09 May 2013 01:53:04 +0000 PK http://dqydj.net/?p=5012 Today was the all time high closing price for the dividend reinvested, inflation adjusted S&P 500.

I know that much of the financial world has been rambling about the continual new highs in the stock market.  You haven’t been, though… you read my post earlier this year (or read my Tweet this morning) where I originally pointed out the right adjustments to make, but this time it’s official:

The S&P 500, factoring in CPI-U seasonally adjusted inflation and reinvesting dividends just closed at a new peak.  The previous peak was on March 24, 2000.

Graphing this Century’s S&P 500 Roller Coaster

So, you bought some stock in the S&P 500 when your son or daughter was born, way back in March of 2000?  And you’re selling today?  Check out this crazy ride (both as reported, and inflation adjusted):

Too bad you didn’t buy the Dow, eh?

Methodology

I’m using OpenOffice to crunch all the numbers, but here’s the rough setup if you want to reproduce my work (pay attention, Harvard):

1. Take the CPI-U, Seasonally Adjusted from the St. Louis Fed’s awesome FRED site.
2. Find S&P 500 Total Return Data.  I grabbed this from Daily Finance.
3. Interpolate to find DAILY inflation numbers.  If you want a shortcut, I built a daily inflation calculator.
4. For the days since the last inflation report, extrapolate (again, the inflation calculator does this automatically, and updates itself once a month) to get the daily inflation numbers.  I’m using the last 3 months to figure out the slope for this month – this might later get revised away (yes, I recognize that – consider it accurate as of today!).
5. Adjust the closing prices.

For TODAY, 5/28/2013 I have a S&P 500 closing price of 2886.35.  On 3/24/2000, the S&P TR closed at 2107.277.  Respectively, I (using inter/extrapolate in OpenOffice) have daily inflation indices of 234.0343141982 and 170.9258064516.  Put them together and you get 2886.35 for today, and 2885.3169556953 for 3/24/2000.  There you go – that’s a pretty horrible return for 13 years, but at least it’s positive!

Too much work?  Well, if you’re okay with a lower resolution, we do have a great tool for that… the dividend reinvestment calculator for the S&P 500 is found on this very site!  Don’t you love us?

Taxes, Transaction Fees, and All That Jazz

Yeah, I know.  How far do you want me to take this analysis?

The irony, of course, is that income taxes are inflation adjusted, but capital gains are not.  So if you held on for 13 years and sold today, you’d owe taxes on a 36.97% gain, not the actual 0% gain in purchasing power you just recognized.

Plus you’d have to pay a transaction fee.  For shame!

Anyway, there you have it – this is a day that will live in infamy.

Meet the new inflation adjusted dividend reinvested closing price boss, same as the old inflation adjusted dividend reinvested closing price boss!

]]> http://dqydj.net/may-8-2013-the-actual-all-time-closing-high-in-the-sp-500/feed/ 3 http://dqydj.net/may-8-2013-the-actual-all-time-closing-high-in-the-sp-500/ http://feedproxy.google.com/~r/DQYDJ/~3/OHTjbXBtVgs/ http://dqydj.net/the-curse-of-successful-investing/#comments Wed, 08 May 2013 07:08:55 +0000 PK http://dqydj.net/?p=5007  

“If I was running $1 million today, or $10 million for that matter, I’d be fully invested. Anyone who says that size does not hurt investment performance is selling. The highest rates of return I’ve ever achieved were in the 1950s. I killed the Dow. You ought to see the numbers. But I was investing peanuts then. It’s a huge structural advantage not to have a lot of money. I think I could make you 50% a year on $1 million. No, I know I could. I guarantee that.” – Warren Buffett

Younger, cockier Buffett succinctly said what many others have tried to impress upon investors – your smaller size is an advantage in the markets.  Call it the curse of success or whatever you want (and this isn’t an article about mutual funds), but a little success in the markets can be a bad thing for a fund.  Consider this success spiral:

Yep, one egg basket. I’m so creative. (Morgue File)

1. Beat the market
2. Attract tons of new investor money
3. Fail to beat the market with the huge influx of cash
4. Cash leaves
5. Beat the market
6. Repeat!

Too Much Money, Not Enough Opportunity

The fact that most mutual funds do not beat a standard benchmark, like, say, the S&P 500, leads a lot of people to believe that beating the market is an impossible goal.  We, of course, are a bit more sympathetic to the idea – but we do feel this game is rigged.  Remember, when you invest your money, you face many less restrictions than a mutual fund manager.

That’s right – we hold our mutual fund managers up to a higher standard than ourselves.  Mutual fund managers have to:

1. Hold some money in reserve due to redemptions
2. Follow strict strategies laid out in a prospectus
3. Hue to specific asset allocations (again, in the prospectus)
4. Usually avoid purchasing controlling stakes
5. Keep performing quarter after quarter

Watch that Basket!

Andrew Carnegie (supposedly) said something like, “The way to get rich is to put all your eggs in one basket and watch that basket.”  That’s right – diversification might cushion your downside, but it also requires you to be correct more times in order to have the same upside.  I’m being charitable here – unless you make multiple good calls, you’re limiting your upside.  Most large fortunes have come from avoiding diversification – people staking their bets on one company, investing in one good stock, buying real estate in one city or region.

I’m not saying that the preponderance of evidence means you must become less diversified, I’m saying that if you feel that you have an edge, you won’t realize it by buying hundreds of stocks, or investing billions of dollars of Other People’s Money.  The reason that most people who read this article can theoretically beat a benchmark is because of their increased flexibility – you can buy small (and micro) capitalization stocks with most of your capital if you so choose, and you probably won’t be buying a controlling stake.  If a mutual fund with billions of dollars tried it?  Their purchase would require disclosure to the SEC, would move the market noticeably, and they would still (in the case of some stocks) need to buy other companies.  Neither the mutual fund nor you are in the business of running companies, just investing in promising ones… so you can see where that would be a problem.

Where This Information Suggests You Look…

Draw a bunch of arrows from this information, and what do you see?  Mutual funds pretty much define the market… even if they are trailing indices or making formulaic purchases in portfolios of 50+ stocks (which behave like an index anyway), they aren’t going to beat the market.  Remember, again, they have to both take out fees and keep money in reserve – so they will never even track an index perfectly.

What can you take from this?  Sure, it increases your risk – but to beat mutual funds (and, yes, the market if it is possible) the way to do it would be to employ strategies the mutual funds won’t touch.  Whether than means leverage, small cap stocks, deep value stocks, turnaround plays, merger acquisition, options and futures, commodities, or something else is your call – but you can’t beat them by joining them.  If you’re going to try to beat the market, assuming you think it’s possible – don’t do it by emulating large mutual funds.

Coming Full Circle

Buffett recently put a contrarian voice on the Berkshire Hathaway board to provide a counter-opinion to him and Charlie Munger.  The so-called perma-bear, Douglas Kass, recently asked if Berkshire was too big to employ it’s old strategy.  He used colorful language – an “index fund” fit for “widows and orphans”, where the company is so big it can only hunt elephants.

Buffett may be the exception to the rule, and might be the ultimate Big Game Hunter of the investment world.  Do you think you can compete?  If you don’t, you know where to look…

 

]]> http://dqydj.net/the-curse-of-successful-investing/feed/ 9 http://dqydj.net/the-curse-of-successful-investing/ http://feedproxy.google.com/~r/DQYDJ/~3/eDXQFK3fBD0/ http://dqydj.net/how-much-did-you-save-in-2012/#comments Mon, 06 May 2013 06:08:41 +0000 PK http://dqydj.net/?p=4995 If there’s one thing to be said about Finance sites (especially the blogs), it’s that there is no shortage of voyeuristic information posted for the view of anyone who happens to wander by.  Think about it – straight Personal Finance blogs sometimes detail every transaction the author makes, Investment sites demand disclosure about what stocks a person owns, Advisor sites come complete with a detailed biography, and debt blogs?  Well, those blogs take disclosure to a new level…

DQYDJ on the other hand, metes out the personal details slowly – because, well, you are not Cameron, Bryan or me.  Decisions we make are generally good for our situations, and we do our best to explain how you should approach similar decisions.  However, this is a site built on trust.  So, once again, we open our books to our faithful readers so you can see if we’re (well, at least if PK is…) trustworthy enough to deserve your subscription.

Your Favorite Author’s Savings Rate

I use a very strict definition of savings for my calculations, spelled out back when Cameron and I did a point-counterpoint series last year.  In essence, I only count liquid savings vehicles – savings accounts, retirement accounts, and the like versus net income.  If I counted principal pay-down it would obviously be quite a bit higher.  And, of course, if I also counted home improvement spending (I’m sure you could make the case), it would be much higher (heh, especially this year).  But we’ll run with what we’ve got – here’s the PK household’s (strict) savings rate since 2007:

 

So that’s 26.07% net in 2012, using my definition of savings.

How did you do in 2012?

]]> http://dqydj.net/how-much-did-you-save-in-2012/feed/ 25 http://dqydj.net/how-much-did-you-save-in-2012/ http://feedproxy.google.com/~r/DQYDJ/~3/WggvKU0kBqE/ http://dqydj.net/the-dqydj-weekender-542013/#comments Sat, 04 May 2013 16:35:53 +0000 PK http://dqydj.net/?p=4991 Has someone else already said something like this quote?

“I’ve got a sense of time, but I haven’t got much sense.  Or much time.”

I woke up with it in my head, haha.  Feel free to use it, just send me some royalty checks!

Links We Liked!

• First link?  The first web page ever!  Resurrected and posted at its original url, of course.
• Ironman at Political Calculations discusses innovations in aluminum cans of beer.
• Jim at FreeBy50 has the numbers on adult children living at home.  Your buddy PK started his job out of college within 2 months of graduating – so I didn’t have time to move home.
• The Wall Street Journal added a feature where you can compare the text of two Fed statements.  If only someone had the technology to do it for company notes… (let that note linger; I know a guy who knows a guy.  If he were more civic minded he might even post it.).
• At The Onion – “Social Media Rockstar Makes $28,000 a Year“.  Hilarious.  For the record, we cleared ~$2,300 on this site last year (well, we’ve made more this year, but still…).  Don’t Quit Your Day Job is good advice!
• Rick Ferri breaks down Equal Weight S&P 500 funds (generally they come in ETF form) and finds there’s no free lunch.
• Mochimac at Spend. Save. Splurge* discusses what makes a stock valuable, and how to… estimate said value.  *(Man, those periods make it hard to cite your site, haha!  – from the desk of the editor of Don’t Quit Your Day Job…)
• On the topic of market movements, an article in Nature about using Google Search results to read the pulse of the market.
• Len Penzo defies the haters and puts ketchup on his hotdogs.  Len is definitely a man’s man – he bought a new car and bucked the trend on America’s favorite meat-based snack not named bacon.  Back in my hotdog eating days I’d go all out – ketchup, mustard, relish, and onions and cheese when the spirit moved me.
• Daniel Hamermesh at the Freakonomics blog dug up a great argument from Ben Franklin (!) against the minimum wage.
• Control Your Cash with a real life example of how group-think makes it easier for you to make money, if you just pay attention.  Yes, if your rental house is going to sit idle, a price cut is in the cards…

Links To Us!*

*Yea, that’s right, I still don’t have trackbacks working.  Probably a good thing, since we get ~100 spam links a week, heh.

• Carnival of Wealth
• Carnival of Passive Investing
• Carnival of Personal Finance
• Barbara Friedberg Personal Finance
• FreeBy50
• The Amateur Financier
• Financial Uproar

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