AMA 101 – Market Timing Beyond the Stock Market with Dan Egan

 

Inspired by an article from Business Insider, Jason Hartman invites Dan Egan of Betterment onto the show to expand upon the idea of market timing. While much of the focus is on Wall Street and how market timing works in the stock market, a lot of these ideas can be applied to real estate investing. They also discuss topics such as long- and short-term capital gain, high-frequency trading and how happy we are with our own achievements in absolute terms.

 
Key Takeaways
02.33 – Stock trading investments are all about assessing long and short-term achievements. Remember that the government views capital gain in terms of short or long-term.
04.03 – Dan Egan describes the ‘bid ask spread’, an economic term for the costs you never see a bill for.
07.20 – High-frequency trading might not be everything it’s cracked up to be. You have to compare the situations of the big traders with average Joe’s actions.
13.30 – Personal satisfaction is hugely important, but it’s always competing with our comparisons to the people around us.
15.20 – For more information about Dan Egan and his company, head to www.Betterment.com
15.28 – Jason Hartman discusses some of the various viewpoints on the inflation/deflation argument.

 
Mentioned in this episode
www.Betterment.com
Flash Boys by Michael Lewis

 

Tweetables

When it comes to stocks, the longer you invest, the higher the chance that you’ll win – and you can win big!

It’s logic; the more you trade, the more chance there is that you’ll get hit by high-frequency investors.

If you’re in a bull market, you’re not a genius, you’re just there along with everybody else.

Transcript

Introduction:
This show is produced by the Hartman Media Company. For more information and links to all our great podcasts, visit www.HartmanMedia.com

Welcome to the American Monetary Association’s podcast, where we explore how monetary policy impacts the real lives of real people, and the action steps necessary to preserve wealth and enhance one’s lifestyle.

Jason Hartman:
Welcome to the podcast for the American Monetary Association. This is your host, Jason Hartman, and this is a service of my private foundation, the Jason Hartman Foundation. Today, we have a great interview for you so I think you’ll enjoy it, and comment on our website or our blog post. We have a lot of resources there for you and you can find that at www.AmericanMonetaryAssociation.org, or the website for the Foundation, which is www.JasonHartmanFoundation.org. Thanks so much for listening and please visit our website and enjoy our extensive blog and other resources there.

Hey, it’s my pleasure to welcome Dan Egan to the show. He is Director of Investing at www.Betterment.com, and I became interested in his work when I read a Business Insider article about time in the market versus timing the market. Dan, welcome, how are you?

Dan Egan:
Very well, thank you very much for having me.

Jason:
Yeah, it’s good to have you. So where are you located?

Dan:
Betterment is located in the heart of Manhattan, right by Madison Square Park, in what we call Silicon Alley. That’s where a lot of the fintech start-ups in New York are based.

Jason:
Oh, you’re right in the middle. Good stuff. You’re in the belly of the beast of Wall Street there.

Dan:
Definitely.

Jason:
I liked this article that you wrote; the exact title escapes me. Let me see if I can find it here. It’s Investing is about time in the market, not market timing. I like that title. Tell us about the philosophy there.

Dan:
Sure. Think about the stock market and about investing as kind of a reverse casino. If you go to a casino, you know that the odds are in the house’s favor. If you play for a long time and if you play a lot of games, the house is going to win. The odds are that the house might get unlucky in a short period of time; if you go in and you just play roulette once, you might win. The house, in order to stay in business, basically has to win on average. They’re very good about doing that.

The stock market’s a little bit like that, but in reverse. Whereas with a casino, you’re pretty sure you’re going to lose in the long-run, but you might win in the short-run, the stock market’s the opposite. You’re the house. You’re the one who, because you bear short-term risk for the fact that other people might win a little bit in the short-term, you’re going to win in the long-run. The longer that you invest for, the longer that you play for and the more certain it becomes that you’re going to win and win big.

Jason:
So why would that be true? If you’re not winning in the short-term, why would you win in the long-term? The reason I ask, and I know this is part of it, is when you churn and you trade a lot, you lose money with commissions, but commissions in stock-trading are relatively low, compared to say, real estate, for example.

Dan:
I think there are a couple of reasons. Number 1 is commissions, that is very true. It’s important to remember that commissions have fallen relatively recently. A second thing is that people forget that if they do happen to lose, especially over a short period of time, you’re not just making money for yourself, but you’re making money for the government. They’re going to take a higher percentage of any short-term capital gain than they are of the long-term capital gain.

Jason:
Good points, so that’s where real estate really wins the game because you can trade it all your life tax-free if you do tax-deferred exchanges. The taxation will just kill you by being a trader. Yeah, good point. Okay.

Dan:
The other thing is that you start getting into transaction costs that you never actually see a bill for. One of these is what’s called the ‘bid ask spread’. It’s something which is just a transaction cost that exists naturally in the market. If you imagine that I have a share of stock A that I want to sell, and I think it’s worth about $101. The next person who’s most interested in buying a share of stock A thinks it’s worth about $99. Both of us are probably going to end up saying, ‘Okay, let’s split the difference. I’ll take $100 and you can take $99.’ When you think about that transaction, we both felt like we lost a little bit on it. The person buying it had to pay a little bit more than they really thought it was worth, and the person selling it had to pay a little bit less than they thought it was worth. You don’t notice it and you never get a bill for it because you just say ‘Well, I really want to get this transaction done, so let’s do it.’

However, think about it a little bit like a toll on a bridge. If you pay that toll once a year because you drive over the toll bridge once a year, it doesn’t matter. It’s going to be really minuscule. On the other hand, if you’re trading a lot and you’re going back and forth over that bridge multiple times per day, it’s going to add up to a lot. It’s going to be a significant amount over a long period of time. The ‘bid ask spread’ is what I view as a market tie, but you never get a bill for it. You never notice that you’ve actually been taking teeny, tiny hits every time you transact.

Jason:
Now, you probably saw Michael Lewis on 60 Minutes a few months ago, and I did a show about that episode. I also really enjoyed his book, Flash Boys, which I bet you’re familiar with – you’ve probably read it, actually. Is that bid ask spread a lot worse because of the high-frequency traders that are beating investors to the punch all the time?

Dan:
I’m going to say yes and no. I’m going to say yes at large – what they’re essentially doing is they’re trying to basically bid up the price by teeny, tiny little bits. I don’t think that they’re really doing anything that is socially useful; they’re not helping us find better ways to invest in different companies. However, I think it’s also important to be realistic about it. Again, this really matters depending on how much you trade. If you are a hedge-fund that runs an algorithmic strategy and is trying to beat the market all the time and therefore trading a lot, then you really hate high-frequency traders.
Betterment’s customers tend to be buy-and-hold investors, which basically means that high-frequency traders don’t get to get a cut of us very often. We’re just going to hold it; we’ll buy once and then sell 20 years later. We’re just not going over that bridge enough for it to be a worry for most of us. I think that’s true of a lot of investors – as long as you don’t trade a lot, you don’t open yourself up to getting just teeny, tiny bits of you bitten off.

Jason:
OKay, so that’s kind of like a yes and a no on that. Certainly, the high-frequency trading is a very profitable thing. They’re certainly beating investors to the punch and they’re making a lot of money doing it.

Dan:
Sometimes. You have to remember that we always tend to hear about successes in the media, but not necessarily the failures. I wonder, and I don’t have any stats on this, but you have to remember that a lot of these high-frequency trading firms get set up, they try and make money and they fail. I wonder what percentage of the profits in the profitable ones came from basically trading against the high-frequency traders who are a little bit slower or didn’t have much luck in the market. I don’t necessarily know that it’s just a redistribution from your normal Joe to these high-frequency traders because, again, normal Joes don’t trade that much. On the other hand, big algorithmic prop-trading desks do. I think this is a little bit of two professionals duking it out and the average person isn’t really involved in the fight.

Jason:
Interesting, okay. So what else goes on with the buy-and-hold method, versus the, we’ll call it ‘the flipping method’ or the ‘in-and-out timing the market’ method? I say that in the real estate game, the people who buy and hold their real estate just tend to have real wealth, and the people who flip and try and time the market have spending money. There’s a big difference. Spending money is great, but I’d rather have long-term, real wealth.

Dan:
Well, I’ll tell you, you also have more hair and less grey hair and more free time. One of the things that’s very true about any sort of more active thing is that it’s obviously going to take more time and it’s going to open you up to more occasions when you’re going to have made the wrong decision. You generally find that the market is a very deceptive environment. There’s a lot of noise in it, there’s a lot of randomness about things going up and down, so it’s very easy to get fooled into thinking that you have skill. An individual who sells out of GM and buys into X-On on a random day, and then the market goes up the next day – of course, both of those are going to go up and he’s just going to have paid attention the the X-On stock that he’s actually holding, rather than GM.

It’s very easy to get the impression, and this often happens during raging bull markets, and people think that they’re much better investors than they are because they’re mistaking a rise in the whole market for their specific skill at picking a given stock.

Jason:
Dan, I like to say, and I don’t think this is my quote, but I can’t think of who it came from – I remember saying it to my mother a good many years ago: Everybody’s a genius in a bull market.

Dan:
Yup, absolutely.

Jason:
We should look back to that old quote – “A rising tide floats all ships”. That’s not genius, it’s just being in the right place at the right time, and I always say I’d rather be lucky than good. We’re full of cliches here, aren’t we?

Dan:
I know, I’ve got plenty more to use.

Jason:
But they work, you know. They really do. They make sense.

Dan:
Wisdom comes from somewhere.

Jason:
Hey, that’s almost one! I’m not sure what I also wanted to ask you about this, but I think it is possible that people are just attracted to this. It’s like the gamblers’ mentality. It’s like they want to be engaged in it, and it’s almost like playing a video game. It’s as if with all these online trading platforms, Wall Street has really gamified the stock market, and that’s very attractive to people. Some people just love being engaged, it’s like they do it just for the pure activity of it. Kind of like the way they want to go play Blackjack or something.

Dan:
There’s a lot of ‘What could have happeneds’ in stock market investing, much like there is in gambling. It looks so apparently easy if you look back at 20 years of stock market history to say ‘Oh, if I’d just invested before it went up and I’d gotten out before it had gone down, I would be incredibly wealthy’. While that’s completely true, it’s like we don’t believe in how fundamentally noisy this stuff is. The number of times that an economic figure like unemployment or GDP will come out, and the market reacts exactly the opposite of the way that standard economic theory tells us it should. It’s about 50/50. I think that we have such a compulsion or a belief that you need to work very hard at this stuff in order for it to be really relatively successful.

One of the things I like to say is that just investing long-term is probably one of the best jobs you’ll ever get because the fewer days you come into work, the more you’re going to get paid in the long run. The more you come into work, the more you’re going to get docked because there’s just so many market frictions in trying to do work everyday. People seem to have a hard time saying ‘Oh, this is the best gig ever, I’m just going to not come into work; they keep coming into work and they keep getting docked.’

Jason:
Yeah, it’s true. For some reason, that gaming and gambling mentality really seems to hook a lot of people. It’s like they want to work more. They want to be engaged on it, it’s like a high. They get a high from this roller coaster ride. It’s an interesting psychology, it really is. I’m glad I’m not affected by it! Or at least not too much.

Dan:
One of the things you often find it that everybody wants to be above average, and obviously when it comes to investing, if you want to be above average, you have to go out and do something that makes you win. They’re actually done surveys looking at somebody who earns $50,000 in a neighborhood where most people earn $40,000, or it could be somebody who earns $90,000 in a neighborhood where most people earn $120,000. People actually focus a lot more on how they’ve done relative to other people, and that’s what drives their happiness and their satisfaction of an outcome more than how they’ve done just on an absolute scale and on how well they’re set up. That’s a very tricky thing to come to terms with – do you care about winning compared to your wife’s sister’s husband or do you care about just making sure that you’re more than meeting the bills and that you’ve got a good set-up for you and your family?

Jason:
Okay, good. What else do you want to say, just in general, about investments? Where do you think the economy’s going in the market, and what are your thoughts about inflation and deflation?

Dan:
I genuinely just think that it’s going to go up over the long-term. I don’t pay attention to a lot of the short-term noise because it can lead you so easily astray into thinking that something is certain to happen. In general, I think as long as the Fed continues to target 2% inflation and they continue to do what they’ve done in terms of trying to keep the economy a little bit perked up, everything’s going to be fine. Especially when you consider that you’re looking over the next minimum 10-year period.

Jason:
What do you think about the inflation risk, though?

Dan:
I genuinely have no idea. If you had told me 5 years ago that oil would be at beneath $80 a barrel today and that you could go and fill up your tank at $2.80 a gallon, I would never have believed you. Especially when energy plays so much of a big role in modern day numbers for inflation, I just have no idea.

Jason:
Very interesting, good stuff. Give out your website, if you would, Dan, and tell people where they can learn more about you.

Dan:
Definitely. We’d love it if you came and checked out www.Betterment.com, it’s a better, smarter investment.

Jason:
Good stuff. And when we talk about inflation, it harkens back – I remember when Peter Schiff was on CNBC and it was just slightly before the financial crisis when the Dow had bumped up against like 14,000. He was arguing about inflation, blah blah blah. It was the same argument you always hear from him, and I think it’s getting a little old, to tell you the truth. There’s definitely some truth to it, too, so I kind of take a middle ground on this.

One of the interesting things he said at that point – of course it’s different now because we’re at a much different point – was there’d been no real gains in stock values since the Great Depression. He said the only return had been dividends, that’s it, because adjusted for inflation, stocks are the same. That’s over like a 7 decade period! I’ll tell you my own comparison that I made – I remember when the Dow hit like 15,000 and everybody on CNBC was going crazy and all the advertisers and all the broker firms increased their budgets and so forth to attract more new customers. My analysis was that if you look 10 years back and you just left your money it, it would have to be a 15,800 for you to break even, and they were celebrating 15,000 like it was the biggest party of all time.

Dan:
Yup.

Jason:
People just don’t understand inflation well enough. The mainstream public just doesn’t get it. You’ve got to adjust all returns for inflation.

Dan:
Absolutely. I completely agree. It’s a very stealthy pickpocket from your wealth and again, like the bid ask spread, you never get a bill at the end of the year from your savings accountant saying ‘Yes, you got a half percent interest rate, but you’re actually down 1.5% in real terms’.

Jason:
Yeah, ‘Here’s your inflation bill’. Good point. Well good stuff. Any other closing thoughts you want to share?

Dan:
Definitely. I would just recommend anybody who gets involved in investing in the stock market – it’s a little bit of a roller coaster but just remember, the only people who get hurt on the roller coaster are the ones who jump off.

Jason:
That’s good, I like that. Good stuff. Dan Egan, thank you so much for joining us.

Dan:
My pleasure. Thank you very much for having me.

Outro:
The American Monetary Association is a non-profit venture, funded by the Jason Hartman Foundation, which is dedicated to educating people about the practical effects of monetary policy and government actions in inflation, deflation and personal freedom. Our goal is to help people prosper in the midst of uncertain economic times. This show is produced by the Jason Hartman Foundation, all rights reserved. For publication rights and media interviews, please visit www.HartmanMedia.com or email [email protected] Nothing on this show should be considered specific personal or professional advice. Please consult an appropriate professional if you require individualized advice. Opinions of guests are their own, and the host is acting on behalf of the Jason Hartman Foundation exclusively.

 

 

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