Kevin Spacey is Lying to You

Sam Swift, CFA, CFP®, AIF®

Jun 11, 2015

By: Sam Swift, CFA, CFP®

There’s a new commercial out about a guy in an airport who notices a long line at the health food restaurant and no line at the fast food restaurant. This commercial is dumb.

“Looking below the surface, researching a hunch, and making a decision,” says Kevin Spacey (As an aside, I feel like E*Trade probably could have saved some bucks here and skipped the A-list actor). This sums up what’s been hammered home for decades by financial marketing: notice trends before anyone else and profit off of your predictive prowess. It’s a good thought that, unfortunately, bears no relationship to the real world.

Markets are far too efficient—the price of a stock at any given time reflects all available information and investor expectations—and make it exceedingly unlikely that you’ll be the first to spot a trend and be able to profit off of it. This is definitely the case if you’re sitting in an airport in 2015 and think to yourself, “Hey, maybe there’s something to this health food craze!” because you’re at least 30 years behind on that one. In fact, the guy in the commercial “researches his hunch” and is able to find multiple articles talking about the health food boom. Might that information and the expectations of other investors already be factored in to the price of that stock? Of course!

The reality is that you have to do two things correctly to profit off of a stock purchase:

  1. Successfully predict a new piece of information that no one else knows about
  2. Successfully predict how investors will react to that event

The first is near impossible on its own (those with crystal balls excluded) and the second is harder than you think. Let’s take a trip back in time and see how trend-spotting might have worked out for us.

In this scenario, we’re traveling back thirty years to 1985 and we get a choice to buy one of two stocks: Motorola (the leading manufacturer of these newfangled cell phone things) or Hormel Foods (the maker of Spam and other fine products). In this case, we even have the advantage of knowing for certain that cell phones are going to take off. So which stock should we buy?

Mortorola vs. Hormel

I wouldn’t fault us for logically picking Motorola and we’d have done okay more than quadrupling our money. Unfortunately for us, however, the freight train that is Spam (red line above) would have returned nearly 12 times as much and we would have grown our initial investment over 50 times! We were dead right on our trend picking but dead wrong on our stock picking.

The reality is that we weren’t the only ones who predicted cell phones would be important. When more and more investors start to think a company’s prospects look good, they start to buy that company’s stock and the price goes up. If expectations are already high, as in the case of cell phone technology, then the only way for the stock to continue to outperform is to exceed expectations. This same concept is how JPMorgan Chase can pay a record fine yet see their stock price rise over the next few months—paying a $13 billion settlement is not good for your bottom line, but when it’s less than what investors were expecting it can actually be good for your stock price!

We know stock picking doesn’t work, but the myth persists that you can be just a little savvier and succeed. The plus side is that we still get commercials to make fun of. In fact, here’s my pitch for the next E-trade Commercial, free of charge:

Somber piano music plays while camera pans in on a family at a baseball game…..

Dad sees a Dippin’ Dots stand and looks around contemplatively. Kids start begging to have some Dippin’ Dots of their own.

Kevin Spacey voiceover: “Brilliant. Spotting trends before anyone else. They’re the ice cream of the future and you’re the investor of the future.”

Dad buys Dippin’ Dots stock. Dad loses all his savings.

Cue E-Trade logo.


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