Now imagine that you could get a couple of percentage advantage in investing. You could too make investing a full-time career. Few folks seriously consider becoming full-time investors, but in a way, that’s what many will inevitably do in retirement, forced or otherwise. And even if clocking out isn’t on your radar at the moment, investing is at least a side job for you, a way to earn a little more money. Otherwise, you wouldn’t be reading till this far for this article.
So gaining a couple percentage of advantage could translate eventually into a full-time investment career, you may think it sounds naïve or interesting? Well, there are a few ways to turn the advantage into your favor from the house. This results from taking advantage from market-trashing actions. So where do market-trashing results from?
For a long time, up through today in some dwindling corners, the Efficient Market Theory exercised great influence in the academic community. It holds that no one can systematically outperform the market’s returns since all information relevant to the value of the stock is instantly reflected in that stock’s price. One of the linchpins of the theory is that the participants in the market are always knowledgeable, dispassionate, rational players acting in their own interest. Because there’s so much evidence that not all investors are particularly rational, least of all knowledgeable, what has gained more influence latterly are various theories of behavioral finance.
I was reading through a presentation that noted value investor, Arnold Van Den Berg, made last spring to his clients. One part of it describes the four irrational states of sellers that you’re looking to buy from. Because no matter what form of efficient market you believe in, there’s no arguing on one point – whenever there’s a buyer of a stock, there’s a concurrent seller. And one of them is ultimately going to be proved right, and the other wrong. The more that emotion is driving the seller, the better you’ll do. So here are the emotional states you should look for in a seller.
1) Apathy: When a stock has gone nowhere for years, often sellers just don’t really care whether they own it anymore. Van Den Berg gave the example of Coca-Cola, a stock which has done nothing for its shareholders for 8 years or more. Microsoft is another company plenty of shareholders just don’t care if they own anymore, after watching the company perform well but the stock go nowhere.
2) Disgust: When shareholders lose money, or a stock has gone sideway for a long time, shareholders just want to get rid of it. The stock has disappointed you, the company’s earnings have declined, so has its sales, and you’re just disgusted with it. That is truly a deep psychological state.
3) Fear/panic: While disgust is nice, fear and panic are even better. It causes already irrational behavior even more irrational. Some classic examples of stocks getting very cheap are Merck, and Johnson & Johnson when the 1993 Hillary Clinton-led health-care plan came out. Those with their heads with them cleaned up in the wake of that panic sell-off. These companies appear to meet most of the classic value investors’ metrics today as well, though more because of apathy.
4) Anger: The forth and the best sate to find in a seller is anger. Van Den Berg claims that when his clients call him up angry over his placement of a stock in their accounts, he has his best results. He has gone back and measured that the “angry stocks” have returned 25% to his clients over his investing career. He cites Wal-Mart as the quintessential angry stock today. And I guess that Altria has to rank as one of the class in this category as well.
Van Den Berg has applied the dispassionate pursuit of great value opportunities to the phenomenal benefit of his clients. Not surprisingly, given the advantage underlying value investing, people who use behavioral states of mind are beating the market, continuously.