The accidental investor

An observant reader wrote in to point out the fact that, in my initial post on this site, I lamented the two analytical methodologies that most people chose to follow when trading in the stock market, but neglected to address what he felt was a third path -- that most lovingly tread by Burton Malkiel in A Random Walk Down Wall Street -- where any attempt at analysis would fail due to the randomness of the markets and the fact that at all times all available information is priced into the stock. Malkiel concluded that the investor in the stock market could not hope to beat the action of the markets themselves in the long run.

Now, the fact of the matter is that he could very well be right. For the investor who is not at all interested in finance or stock markets or researching companies or thinking about market trends and human and consumer psychology, then Malkiel gives a solid, if not infallible, argument for why that investor should stick their money in index funds and not worry too much about capturing the larger gains seen by more active investors (as well as the occasionally -- or often -- larger losses). But for those of us who are interested in those things, I think it's still quite possible to apply certain tenets of common sense, to imagine that an overheated market or a completely hated market might return to in a time of relative economic peace. True, in future economic and political turbulence could invalidate the stock markets as a real method of earning money (although it seems that perhaps those times are often the best to make money, too! Turbulence does not affect all areas equally, much like that William Gibson quote: "The future is here, it's just not evenly distributed."

Some of the things that are common sense, at least to me, are:

1. Companies that have earnings, and particularly those that have records of earnings for a number of years, are usually better investments in the long run than growth companies -- trying to guess which growth company will be able to transition to an earnings company is much closer to gambling than choosing companies that have already made that transition.

2. Things that have been popular for a long time are closer to being unpopular than things that are only recently starting to get popular, due to people's love of novelty. This is a way of finding "growth" in a company that may already be an earnings company.

3. Valuation is arbitrary, depending on your perspective, but cheapness can still be measured against what people have paid in the past. That said, buying anything cheaply is no guarantee that it'll retain its value.

4. Your lifetime (or your investing horizon) may not be "a long time", even if you think it is.

As you can see, there's enough qualification in there, which is part and parcel of my philosophy that you should never assume you know what you're doing. You can be 99% sure of something, but that margin of error should never be forgotten when investing. Doubt, but just enough.

I should also clarify for my readers that in my previous post I was saying that I was not interested in investing in oil -- a reader of mine assumed that I was pointing out a dissimilarity between the energy boom and the Internet stock boom in that the former was supposedly based on educated speculation whereas the latter was not. I don't buy that, but I won't say I'm negative on oil, just that I'm not interested in it, or its obvious volatility. As well, I'm starting to think telecom and particularly companies in the VoIP arena are getting a bit of that hype machine action that pushed energy. There's still something there that's making my spidey sense tingle.