Over the past several years, much hay has been made about the superiority of indexing versus active investing, to the point where many investors, with the encouragement of the media, believe that even good advisors or portfolio managers can’t consistently pick stocks that beat the market, and that indexing is the way to go. Indexing, of course, is betting on an entire “market” like the S&P 500, instead of trying to find the best stocks within that market; you’ll get some stars and some dogs, but on average you’ll do as well as the market, and that’s as good as it gets for most folks, so stop trying to “win,” and just accept it. Of course, this is easier to live with in good markets than bad.
Certainly, market performance in the years since the 2008 crash has lent credence to this notion, with the swiftly-rising tide of a surging US market bounceback from incredible lows lifting stocks of nearly every stripe and color to repeated records. However, the tide is wont to change – as we think it has now – and investors who rely on recent trends to chart future paths are often disappointed. Indexing is currently in raging fashion, but the world seems to change as soon as everybody “knows” something, like all stocks are created equal.
Camarda, as a firm, has always held that careful analysis can uncover superior opportunities – similar shares for cheaper prices, better companies for similar prices, shares which are rising faster due to institutional demand, and so on – which can translate into better investment returns. A good analogy is rental real estate, where it is not unusual to find virtually identical rental houses – same area, size, construction, rent rate – for 40% less than others. Fallible sellers – ignorant, desperate or hopelessly optimistic – misprice wares for sale all the time. We firmly believe that hard work and research can pay off – in shopping for real estate, cars or stocks – and Camarda endeavors to do this in the portfolios it manages for clients.
From this perspective – that it seems obvious that some transactions are more attractive than others – the current fashion of indexing may seem unusual. When one considers the academic underpinnings, it seems quite bizarre, and most contrary to common sense.
The Rational Expectations Hypothesis – on which the Efficient Market Hypothesis, and, by extension, indexing is at least partially based – holds that markets, comprised pretty exclusively of smart, logical, informed, intensely interested human beings – quickly and accurately process all available information to properly price current and future prices. In other words, the price is always right, and trying to get a better deal or expecting one company’s stock price to offer more value than another is not really possible. Hence, investing in the entire market – rather than trying to pick individual winners – is the surest, simplest path. In a nutshell, the theory presumes all people have the same intelligence, information, interest in spending their limited time pondering investments, and the actual time to do it if they really care. Working together, the market unfailingly finds the right price for all things, and market disruptions or opportunities are impossible.
Newsflash? Perhaps some people make stupid decisions, that others can profit from?
To some folks, this premise has always seemed crazy. Market players are as different as athletes – the ones that make professional teams, and the ones who play in back yards – and sometimes so emotional as to lose all reason. Sometimes even the entire world gets it wrong, and bubbles and crashes happen. 2008 brought pause to even the most diehard of the Rational Expectations crew, and the academic world is slowly reframing its theoretical outlook. The indexing approach seems to be largely a hangover of a tattered and limping theory but one – like other fashions – that may continue on sheer momentum long past the time when the world should learn and move on. It is somewhat ironic that indexing continues, in the wake of ’08, to increase in popularity and “correctness.” Just because the average investor’s market returns must by definition be some function of average market returns does not mean that there will not be scads of winners and losers who do better or worse than the averages, or that it is unreasonable or improbable to shoot for the winners’ circle.
Not only does Camarda believe that active management – doing research and analysis to try to uncover superior profit opportunities – over time should prove to be more profitable, but that the current market cycle will especially favor exceptional stock-picking. Camarda uses a variety of methods to target exceptional opportunities, from technical (chart) analysis to pouring through companies’ books to look for cheap, mispriced stocks that have strong profits, businesses, and asset structures. We’d love to tell you more about it, and are confident that the months and years ahead will prove very gratifying for active investors like Camarda clients, but quite disappointing for those holding to the passive indexing past.