The Ultimate Cheat Sheet to Investing Part I

The Ultimate Cheat Sheet to Investing Part I

By James Altucher

In the history of capitalism, this is the hardest time ever to invest. People are going broke, losing their jobs, interest rates are zero, deflation AND inflation are both rampant, and fear more than greed rules the junk news.

Everyone pretends to be informed by reading about the latest crisis in Ukraine. Meanwhile, education costs in the US have risen faster than inflation or income for 40 years in a row. Incomes have been flat to down for 40 years in a row. Retirees have no interest income to depend on. And a handful of stocks are at all-time highs, hiding the fact that the market has largely crashed over the past three years.

In short: people are scared. And I do think the uncertainty is going to rise quickly, so I wanted to put this note together.

In 2001 and 2002, I lost all my money through bad investing. Sometimes I made it all back. Sometimes I didn’t.

So why should anyone listen to me about investing? You shouldn’t. You shouldn’t listen to anyone at all about investing. This is your hard-earned money.

The three most important words in investing are: “I don’t know.” If someone doesn’t say that to you, then they are lying.

I was preparing for my podcast conversation with Stephen Dubner, coauthor of Freakonomics. One of the statistics he points out is that CXO Advisory Group polled the predictions of 500 investment strategists and pundits. The “experts” had a 47% success rate. Good luck if you listen to any of them.

Here’s my experience.

I’ve run a hedge fund that was successful. I ran a fund of hedge funds, which means I’ve probably analyzed the track records and strategies of about 1,000 different hedge funds.

I’ve learned one major thing, which I will repeat below: ALL OF WALL STREET IS A SCAM. There are zero exceptions. I’m afraid this is true, even though I often denied it.

I’ve been a venture capitalist and a successful angel investor (I was ahorrible venture capitalist though—but I put that under the category of “does not work well with others”).

So I’m not in that business anymore. It’s too much work to run a fund anyway.

Over the past 15 years, I’ve tried every investing strategy out there. I honestly can’t think of a strategy I haven’t experimented with.

I’ve also written software to trade the markets automatically, and I did very well with that, but that industry is now dominated by the high-frequency guys.

And I’ve written several books on my investing experiences, from automatic investing to Warren Buffett, to hedge funds, to long-term investing (my worst-selling book, The Forever Portfolio, has sold 399 copies since it came out in December 2008, including one copy for the entire last quarter).

Incidentally, why publish a book called The Forever Portfolio during the worst financial crisis in history? I begged my publisher (Penguin) to postpone, but it couldn’t. “It’s in the schedule” was the magic incantation. Publishers largely suck. The good news is the company will never make back the advance.

That said, I am proud to have made the first crossword puzzle to ever appear in a book on investing.

So, okay! Let’s get started. Don’t follow any of my advice. This is what I do, and it works for me.

A) Should I Day Trade?

Only if you are also willing to take all of your money, rip it into tiny pieces, make cupcakes with one piece of money inside each cupcake, and then eat all of the cupcakes.

Then you will get sick and eat all of your money, but it will taste thrilling along the way. That’s what day trading is.

B) I Don’t Believe You. Many People Day Trade for a Living.

No. I personally know of two. Maybe three. And they work 24 hours a day at it and have been doing it for a decade or more. So unless you want to put in that amount of time and be willing to lose a lot first, then you shouldn’t do it.

One more thing: when you day trade and lose money, it’s not like a job.

When you go into a job, you NEVER lose money. If you don’t show up for two weeks, you get paid. Even if you have been warned repeatedly about sexual harassment, you still get paid. You might get fired, but they won’t take your money.

The stock market TAKES your money on bad days.

Sometimes it takes a lot of your money. We’re not used to the brutality of that, and it can destroy a person psychologically, which makes one (me) trade even worse.

C) Well Then, Who Does Makes Money in the Market?

Three types of people:

1. People who hold stocks forever. Think: Warren Buffett (he has never sold a share of Berkshire Hathaway since 1967) or Bill Gates (he sells shares but for 20 years basically held on to his MSFT stock).

2. People who hold stocks for a millionth of a second (see Michael Lewis’ book Flash Boys, which I highly recommend). This is borderline illegal, and I don’t recommend it.

3. People who cheat.

I’ve seen it for 20 years. I’ve seen every scam. I can write a history of scams in the past 20 years.

Without describing them, here’s the history: Reg. S, calendar trading, mutual fund timing, death spirals, front running, pump and dump, manipulating illiquid stocks, Ponzi schemes, and inside information. Inside information has always existed and always will exist. Those are scams from just the past 15 years. If I went back 50 years, the list would be 50 times as long.

One time I wanted to raise money for one of my funds. I went to visit my neighbor’s boss. The boss had been returning a solid 12% per year for 20 years.

Everyone wanted to know how he did it. “Get some info while you are there,” a friend of mine in the business said when he heard I was visiting my neighbor’s boss.

The boss said to me, “I’m sorry, James. We like you and if you want to work here, then that would be great. But we have no idea what you would be doing with the money. And here at Bernard Madoff Securities, reputation is everything.”

So I didn’t raise money from Bernie Madoff, although he wanted me to work there. Seemed like a very nice guy.

I was depressed when I left his offices in the so-called “lipstick building” in Manhattan. “Why will I never be good enough?” I thought.

Later, the same friend who wanted me to get “info” and “figure out how he does it” said to me: “We knew all along he was a crook.”

Which is another thing common on Wall Street. Everybody knows everything in retrospect, and nobody ever admits they were wrong.

Show me a Wall Street pundit who says “I was wrong” and I’ll show you… I don’t know… something graphic and horrible and impossible [fill in blank].

Remember the magic words:

I. Don’t. Know.

D) So How Can One Make Money in the Market?

I told you about: #1. Pick some stocks and hold them forever. Since “I don’t know” applies, it’s very hard to pick the right ones. Here’s what I do:

E) What Stocks Should I Hold?

Warren Buffett has some advice on this (and I know because I wrote thebook about him. A friend of mine who knows him told me my book was the only book that Buffett thought was accurate about him).

So since I don’t know anything, I will let Warren Buffett take over here.

He says, “If you think a company will be around 20 years from now then it is probably a good buy right now.”

I would add to that based on what Warren does. It seems to me he has five criteria:

1. A company will be around 20 years from now.

2. At some point, company’s management has demonstrated in some way that they are honest, good people. If you can get to know management, even better.

3. The company’s stock has crashed for some reason (think American Express in early ‘60s, which he loaded up on. Or Washington Post in the early ‘70s. Or Coca-Cola in the early ‘80s).

4. The company’s name is a strong brand: American Express, Coke, Disney, etc.

5. Demographics play a strong role.

With Coke, Buffett knew that everyone in the world would be drinking sugared water before long. Who can resist? He also started buying furniture companies right before the housing boom. He knew that as the population in the US grows, people will need chairs to sit on.

Note that Buffett is not what some people call a “value investor.” He buys based on demographics. A lot of people argue about that.

F) What Else?

One time I accidentally got an email that was intended for a famous investor. It was from his broker and contained his portfolio. I can’t say how this accident happened, but it did.

Of course, I opened the email.

This is a man who writes about lots of stocks.

His entire portfolio was in municipal bonds.

I don’t know whether or not municipal bonds are good investments. But I would look into stocks that are called “closed-end funds” that invest only in municipal bonds.

They usually pay good dividends, usually trade for less than their cash or assets in the bank, and are fairly stable (it’s very hard for a municipality to not pay back its debts for various reasons, some of them constitutional).

But do a lot of research into the towns.

I’ll tell you one story. I had an idea for a fund in 2008 when oil was crashing at the end of the year.

Stocks/funds that invested in municipal bonds in Texas were getting destroyed. Somehow, because oil was going down, everyone naturally assumed that Texas was going to simply disappear. I assumed that most people were wrong about Texas.

I researched every municipal bond out there and found a good set of Texan cities that were being sold off with the others else even though they had nothing to do with oil.

I pitched it to a huge investor who had told me he wanted to back me on any idea I could come up with.

He loved the idea. He loved it so much he didn’t invest with me, and a few weeks later he told me, “We now have about $500 million in this strategy and we bought the very stocks you were recommending.”

I don’t know what to think about this. That’s Wall Street.

They went up over 100% in the next six months while the world was still in financial collapse. So he made a lot of money.

As for me, I didn’t put a dime into my own strategy and made nothing.

But that’s my fault.

In investing, you never have anyone to blame but yourself. Blaming is draining.

G, PART 1) Should I Put All of My Money in Stocks?

No, because you’ll never know anything about a company, and you won’t get the kind of deals that Warren Buffett gets.

So use this guideline:

• No more than 3% of your portfolio in any one stock. But if the stock grows past 3%, you can keep it. To quote Warren Buffett again: “If you have Lebron James on your team, you don’t trade him away.”

• No more than 30% of your portfolio in stocks (unless some of the stocks grow, in which case you just keep letting them grow).

G, PART 2) What if We Are in a Bubble?

Some hedge fund manager (David Einhorn) just said we might be in a tech bubble. Back to rule #1: He doesn’t know. It’s just a headline. He’s also the same investor who loaded up on housing REITS in 2007 because he had analyzed statistically “it always paid off.”

(I don’t know).

Bubbles don’t mean anything. We had an Internet bubble in the ‘90s. Then a housing bubble. Bubbles, bubbles, bubbles. And if you just held through all of that, your stock portfolio right now would be about a percent from all-time highs.

So ignore cycles and bubbles and ups and downs.

AND NEVER EVER read the news. The news has no idea about the financial world and what makes it tick. Any investing off the news is like taking out your eyes because you trust a blind person to drive you to work.

I worked at different points for the Financial Times, the Wall Street Journal, and other news outlets. Here’s what the top editor says to his staff every morning: “Tell me something scary that happened last night.”

Part II Tomorrow...

Source: James Altucher

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