A Treasure Trove
Now that you know about the myth of the Crystal Ball, you might be wondering why this knowledge isn’t more widespread? Well, in fact, it is. And it’s not new, either. You just need to know where to look.
What you’ll find in this reference library is a treasure trove of author-recommended online content for you to browse, to deepen your knowledge of the Crystal Ball framework and its principles.
Not a brag sheet - a highlights reel!
Over the last 20 years or so I’ve consumed a lot of material on this subject, but not everything, for sure. Plus, there’s plenty that’s not worth your time. This library is what I consider to be the best of the best and worth your attention if you are put together that way.
Easy Reads
Larry Swedroe
Larry’s been writing about passive investing in very creative ways seemingly forever. Two of his books I liked the most are:
Wise Investing Made Simple:
Wise Investing Made Simple: Larry Swedroe's Tales to Enrich Your Future. Charter Financial Pub Network, 2007.
The Only Guide to a Winning Investment Strategy You'll Ever Need: The Way Smart Money Invests Today. St Martin’s Press, 2005.
Mark Hebner
I won’t steal Mark’s thunder but he’s got quite a story about how he wound up as a significant proponent of an index investing model. Now in its gazillionth edition, this book has probably the most comprehensive bibliography on this topic that I’ve seen.
Index Funds, the 12-step program for Active Investors. IFA publishing, 2007.
Roger Gibson
Roger’s work is slightly more technical because it’s aimed at professionals rather than the general public but it’s included in this ‘easy reads’ section because it’s probably the first book I read on the topic and is still my favourite. His work inspired Chapter 9 of Shattering the Crystal Ball Myth.
Roger’s style is to talk about capital markets rather than get too bogged down in ‘the active/passive debate’. His book (and his spin-off articles) has stood the test of time and is also in its umpteenth edition.
Asset allocation – balancing financial risk. Irwin Library, 1996.
The sun does not always shine. Retirement Planning, Jul/Aug 1998
Tempted to time the markets? Retirement Planning, Nov/Dec 1998
Pick a Portfolio! Retirement Planning, May/June 1999.
Asset allocation and the rewards of multiple asset class investing. Journal of Financial Planning, 1999.
Three months … three years … three decades. Retirement Planning, Mar/April 2003.
Fred Schwed
One of the first books I read when I first started out as an adviser in the early 90s, this one has been around even longer and has sold squillions of copies. It’s a great read and contains lots of funny stories that would be even funnier if they weren’t so tragically true. Actually it has a lot to do with the title of my first book, ‘Swimming with Sharks’ the subtitle of which includes the phrase “… without being eaten alive by the financial services industry”.
Where are the customers’ Yachts? (Or: a good hard look at Wall St), Wiley, 2005
Nassim Nicholas Taleb
While I was developing the Crystal Ball method I searched far and wide for counter arguments to the evidence I was amassing. A highly successful and mathematically peerless operator, Taleb is not an advocate of the Crystal Ball method but he’s not an opponent of it either. At least, not publicly. He does put forward a compelling rationale supporting the investment value of unlikely financial events – ‘black swans’. A good book that will round out your understanding of the Crystal Ball myth.
The Black Swan, the impact of the highly improbable. Penguin, 2007.
Burton Malkiel
At over 350 pages this is a bit of a monster but it was originally published in 1973 and is an established classic -- well worth the read. It brings a very clear perspective to the reality of the share market’s granular performance moment by moment. The title says it all.
A random walk down wall street. W W Norton & Company, 1973.
Online Resources
You could lose yourself in these sites for many hours (guilty!) but there are far greater sins.
SPIVA | S&P Dow Jones Indices - what is SPIVA? It stands for Standard and Poor’s Indices Versus Active (S&P IVA for short). These guys have been reporting on the comparative performance of active and passive strategies for several decades now. You want data? Have at it.
The Evidence-Based Investor | Smart Investing - Robin Powell, a journalist by trade, runs this website and he does it very, very well. He has a number of commercial interests in the financial services space but he is a prolific and reliable advocate of investment strategies that aren’t just made up opinions promoted as fact by commercial market participants.
www.dimensional.com - I’m loathe to point you towards fund managers but these guys have been around as long as Vanguard and their approach to investing is to largely follow the principles of research set out by the ‘founding fathers’ of finance academia, Eugene Fama, Kenneth French, and, Robert Merton. They are prolific commentators on market performance beyond the superficial and misleading financial media.
Index Fund Advisors, Inc. - Fiduciary Wealth Services, Dimensional Funds | Index Fund Advisors, Inc. – this is Mark Hebner’s site (refer above) and has a wealth of information related to the subject of passive investing.
The Classics
These are technical papers – admittedly – but truthfully they’re not that hard to wade through and they’re not as dry as you’d think. Most of them are classics, several decades old, but just as fresh and relevant today as they were when they were written.
They provides some novel insights into what the really, really smart money thinks about the ‘art of active management’ (basically the fund manager charging you to gamble with your capital). More than that, though, they also give you all the background you’ll ever need into how the best ideas in financial science have, over seven decades of evidence, evolved into the Six Laws of Successful Investing.
The Arithmetic of Active Management, William F Sharpe, The Financial Analysts' Journal Vol. 47, No. 1, January/February 1991.
This is a succinct explanation why active investing is a bad idea, proven mathematically. Don’t worry, if I can get through it, you can.
Stupid Data Miner Tricks: Overfitting the S&P 500, David J. Leinweber, The Journal of Investing, Spring 2007
Leinweber writes like Tarantino might, if he were an academic. The title should be enough to get you hooked – how the marketing department of active fund managers keeps them in business.
https://nerdsonwallstreet.typepad.com/my_weblog/files/dataminejune_2000.pdf
Efficient Capital Markets: A Review of Theory and Empirical Work, Eugene Fama, The Journal of Finance, May 1970, Vol. 25, No. 2: 383-417
Active managers claim to have an ability to deliver ‘alpha’ (a return in excess of the average market return), by discovering underpriced investment assets. Fama is basically a legend in financial science and this seminal paper is unequivocal: the markets incorporate all known information into a security’s price, and evidence of legal activities that contradict this is very thin on the ground.
http://student.bus.olemiss.edu/files/Riley/FIN%20633/Market%20Efficiency/Fama%201970%20JF.pdfPortfolio Selection, Harry Markowitz, The Journal of Finance, March 1952, Vol. 7, No. 1: 77-91
Modern Portfolio Theory was born in this article. It shows conclusively how the idea of ‘concentrate your investment in just a few holdings that you watch like a hawk’ makes no sense whatever.
Prophets during doom and gloom downunder, Sarah Azzi and Ron Bird, Global Finance Journal 1970, Vol. 25, No. 2: 383-417
This paper isn’t easy work so here’s the punchline: an analyst’s ‘buy’ recommendation isn’t worth a tinker’s cuss. A study by the authors spanning 1994 to 2003 showed that the average market return performed better than if you’d followed the ‘buy’ recommendations published by ratings agencies. This mirrored the international experience that was studied by other cited academics in the paper.
Biases and information in analysts' recommendations: The European experience
The Cross-Section of Expected Stock Returns, Eugene F. Fama and Kenneth R. French, The Journal of Finance, June 1992, Vol. 47, No. 2: 427-465
A pretty technical article that requires some background knowledge because it builds on the CAPM model developed in the 50s and 60s as well as Markowitz’ concept of efficient markets from the same era. This article has heavily influenced modern finance. The concept of Risk Premiums, the basis of Chapter 8 of Shattering the Crystal Ball Myth, was also born in this article.
https://onlinelibrary.wiley.com/doi/10.1111/j.1540-6261.1992.tb04398.x
Determinants of Portfolio Performance, Gary P. Brinson, L. Randolph Hood & Gilbert L. Beebower, Financial Analysts Journal, January/February 1995, Vol. 51, No. 1: 133-138
What drives market portfolio returns? Like the next paper in this library, active management is measured and found wanting.
https://www.tandfonline.com/doi/abs/10.2469/faj.v51.n1.1869 [abstract only]
Does Asset Allocation Policy Explain 40, 90, or 100 Percent of Performance?, Roger G. Ibbotson & Paul D. Kaplan, Financial Analysts Journal January 2000, Vol. 56, No. 1: 26-33
Timing markets and picking winners are key falsehoods that perpetuate the myth of the Crystal Ball. This article, now 25 years old, does a good job of explaining why.
Does Asset Allocation Policy Explain 40, 90, or 100 Percent of Performance?: Financial Analysts Journal: Vol 56, No 1 [abstract only)
Measuring the True Cost of Active Management by Mutual Funds, Ross M. Miller, Journal of Investment Management 2007, Vol. 5, No. 1: pp29-49
A neat forensic investigation into the published returns of active investment funds. The conclusion? Most of the return delivered by the fund is not attributable to the best ideas the fund manager has about picking undervalued stocks. The true cost of active management is explored. A little heavy but pretty damning for the funds management industry.
http://millerrisk.com/Expenses/Miller_1Q2007_JOIM_True_Cost_of_Active_Management.PDFOn Persistence in Mutual Fund Performance, Mark M. Cahart, The Journal of Finance March 1997, Vol. 52, No. 1: 57-82
Also a bit heavy but important concepts like survivor bias and portfolio turnover are completely unpacked, showing that and fund manager skill doesn’t deliver the crystal ball promise – using 30 years of data from 1962 to 1993.
https://onlinelibrary.wiley.com/doi/10.1111/j.1540-6261.1997.tb03808.x
Presidential Address: The Cost of Active Investing, Kenneth R. French, Journal of Finance 63, no. 4 (2008): 1537–1573.
John (Jack) Bogle, founder of Vanguard, in the year before Kenneth French published this article, observed that active funds dominate the landscape, their funds suffer from less diversification, increased costs, and massively increased portfolio turnover. Building on that notion Kenneth French asked ‘what’s it cost you to invest actively, even if you get it right?’, and he actually has an answer.
http://qed.econ.queensu.ca/pub/faculty/milne/322/ECON322(2008)%20Kenneth%20R%20French.pdf
Why isn’t this taught in schools?
Some of the material here that dates back more than half a century. The tragedy is that for a guy like me – a veteran financial adviser and ASIC-recognised professional investor – this stuff didn’t seek me out, I had to seek it out. It shouldn’t be that way, this should be taught in schools, or at the very least to budding financial advisers in financial planning school.