How to Beat a ‘Rigged’ Market in Three Easy Steps
May 9, 2015
Financial “novelist” Michael Lewis was right to suggest that U.S. markets are rigged. But he got a lot wrong, too. Leading to some dangerous takeaways for investors. Here’s what you should really be doing to defend yourself, plus how three stocks can help you “strike back.”
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Is the U.S. stock market rigged? If so, what does that mean for individual investors? Particularly those of us who plan to profit from the unrivaled wealth-building power that comes with investing in stocks for the long run.
The answer is yes and no. Depending largely on your definition of the word itself. If by “rigged” you mean that market action (and sometimes, individual stock prices themselves) is systematically manipulated to favor certain participants at the expense of others, the answer is sadly, yes.
If you mean to imply that this manipulation is somehow shady or even “dishonest,” the answer is still sadly, yes. However, if by saying the markets are “rigged,” you mean that a negative outcome for investors is predetermined – and that we should abandon our hopes of making money owning the stocks of dominant U.S. corporations – well, that’s the question I intend to answer in this report.
I’ll also recommend three simple steps you can take on your own today to protect your wealth and profit in a rigged stock market – regardless of your specific definition of what “rigged” might be. And I’ll tell you about how taking a position in three “strike back” stocks can protect your portfolio and even help you turn the tables on the market manipulators.
Absent the outrage surrounding Mr. Lewis’s much-ballyhooed 2014 bestseller, “Flash Boys,” we probably wouldn’t be having this conversation. Which is downright curious, given the long-lasting and firmly entrenched nature of the systemic injustice we’re about to discuss. But we’ve got to start somewhere, so why not with Mr. Lewis and his book.
You’ve got to admit: His character-driven narrative formula might be wearing thin, but Lewis does turn the pages. Moreover, despite a strangely myopic, overly simplistic, and arguably misguided obsession with the nefarious maneuvers of so-called high-frequency traders, he makes some valid points.
Lewis is correct, for example, when he points out that high-frequency-traders – along with dark pools and other shadowy exchanges – contribute unnecessary complexity and opacity to the global stock markets. Something that could come back to bite investors in a time of market crisis.
He’s also correct in that the rapid-fire execution and unrivaled visibility into order flow these “Flash Boys” enjoy practically guarantee this new breed of high-tech stock operators a very real advantage over other traders when it comes to eking out tiny profits on vast quantities of transactions – which frankly add up.
Likewise, when he argues that some of these trades might actually amount to illegal front running, thus skimming rightful profits from the accounts of other – mostly larger, institutional – traders. Again, over millions and millions of trade executions, these pilfered pennies too add up.
However, there are troubling drawbacks to Lewis’s obsession with pennies and half pennies – and more important, with the conclusions and remedies he seems to offer hardworking individual investors. We’ll discuss those just ahead, including what I consider to be a much more appropriate and profitable course of action that I hope you will consider. But first, let’s answer the question that’s the subject of this report: Is the stock market rigged?
If you haven’t heard by now, a young Michael Lewis worked on Wall Street – for about a minute. I’ve been working on Wall Street in one capacity or another for more than 20 years – first as an analyst, then as a broker, and finally as head of my own Wall Street research firm. To some degree, this explains our perspectives.
Mr. Lewis, after all, is in the business of selling books, which he does quite well. My stated goal is to help investors like you make money. Period. Among other things, that means telling you the whole truth. Even if it entails pulling back the curtain and letting you in on a few tough lessons and “secrets” I picked up over my two decades in the business.
Beginning with the Wall Street “secret” that the stock market is rigged – and always has been. If you’re not convinced, let me quickly run through a few examples of why I say so, though the list is far from comprehensive. Then I’ll tell you what I think really matters to you and your loved ones, and what you can safely ignore – plus exactly what you should do to right the wrong. So let’s begin at the beginning…
- Wall Street IPOs are RIGGED: Whenever an exciting or well-known company debuts on a major stock exchange, investors take notice. This is frankly a shame. The mechanism by which new issues are foisted on the public is among the most conflicted and downright shadiest arrangements on Wall Street. Too often, the syndicates that control initial public offerings (IPOs) strategically underprice the deal so that only their preferred clients make the big money – sometimes at the expense of the offered company itself! Even if the deal is priced fairly, so-called retail investors who buy the shares at the open get a bad shake. Similar to the high frequency trading Michael Lewis “revealed,” this is no secret on Wall Street. Everybody knows that IPOs are a raw deal for retail investors; it’s simply business as usual.
- Wall Street corners information and execution: Again this is nothing new or unique to modern high-frequency-traders. From the days when stocks changed hands under the Button Wood tree, Wall Street has always been an old boys club fueled by connections, intricate networks, faster access to information, insider scuttlebutt, and quicker, more reliable and preferential trade execution. Super computing laptops, the Internet, and cable TV have leveled the playing field, but anybody who argues that individual investors have equal access to information and execution, much less brute force analytical processing power is fooling himself – and us!
- Wall Street “professionals” intentionally mystify investing: This might not sound particularly nefarious, but that’s why it’s so powerful. Fostering the notion that investing is rocket science, best left to rocket scientists, floods the financial services industry with money. Whether we throw up our hands and surrender our retirement savings to a custodian-managed 401(k) plan, relinquish our money to a high-paid wealth or investment advisor, or funnel our hard-earned savings into high cost, poor-performing mutual funds – a complacent and fearful investor is Wall Street’s best friend. It’s worst enemy? An empowered, self-directed investor who wakes up and realizes that investing isn’t quite so difficult as the establishment wants us to believe.
- Wall Street encourages us to trade: Again, this is the same as it ever was – though with a modern twist. From the days of the first bucket-shop ticker reader, constituents in the investment business have worked tirelessly to entice lessor-armed combatants into the trading trenches. The twist is that with the rise of the Internet and the 24-hour news cycle, the media has become a powerful, if unwitting, accomplice. They might be nickel-and-diming you on bid/ask spreads or actually taking the other side of your trades, but you can rest assured that major players on Wall Street are feasting on the short-term mentality of emotion-driven traders. Which brings us to the most serious aspect by which U.S. stock markets are rigged.
- Wall Street plays on our emotions: Again relying on the media as its unwitting accomplice, the big money on Wall Street loves to see you sweat. And only partly because your discomfort reinforces the misconception that you should give up and entrust your money to a “professional.” Manic market swings can be painful for all players, but the most successful operators with the deepest pockets and wealthiest, most sophisticated clientele make their fortunes on booms and busts. Either by selling us overpriced stocks and overhyped new issues at insane prices or scooping up discounted shares when there’s “blood in the streets” – our blood!
Again, this list is not meant to be exhaustive. After 20 years in the business, I could go on. You probably have some examples of your own I overlooked. I’d love to hear your thoughts. At the end of this report, you’ll have an opportunity to get in touch so we can talk them over. Plus, if you’re interested, I’ll tell you how you can join me in an important project to take the markets back from Wall Street and reclaim the American Dream. Details just ahead.
“The colossal profits of high-frequency traders really amount to an
unconscionable tax on the ordinary investor”
In Flash Boys, Michael Lewis focuses almost exclusively on the “edge” afforded to sophisticated, high-tech traders in an increasingly complex financial marketplace. Again, he makes some valid points, and the situation warrants a closer look. But remember, Lewis is selling a book, not actionable investment advice. Frankly, when it comes to high-frequency-trading, I don’t recommend that my clients lose sleep over it.
Are these folks skimming profits from other investors? Sure. Is it fair and just? Probably not. Should we be outraged? Maybe, assuming you are reform-minded and have the time and energy. But does it necessarily mean that the stock market is “rigged” in the strict sense of the word? And that we should abandon our dreams of building massive long-term wealth investing in U.S. stocks? Absolutely not!
Think about it. Worst case, high-frequency-trading and other execution-related shenanigans cost us a few pennies, maybe a dollar each year – if even that. Compare that to the cost of investing your lifesavings in any number of overpriced, underperforming mutual funds. The difference is staggering – with excess costs easily running to the thousands or tens of thousands of dollars per year, depending on the size of your portfolio.
Exactly what does that few thousand dollars a year get you in return? In the vast majority of cases, worse performance than you can earn yourself for less than 1/10th the cost, simply investing in a plain vanilla Vanguard index fund. If you’re paying an investment advisor to choose your mutual funds for you, you can expect to essentially double your costs. You can begin to see why Vanguard founder Jack Bogle realistically estimates that these so-called “financial intermediary” costs can easily eat up more than 50% of your rightful profits each year.
Surprisingly, painful as they are, even these fees siphoned off by an insatiable financial services industry aren’t enough to declare the market “rigged” – at least not to the point that we should get out of the “game.” Remember, over the long term, history confirms that these costs – ill-gotten as they are – ultimately come out of our profits. Profits far in excess of what we can consistently earn investing in any other conventional asset class. Put another way, even despite the exorbitant fees transferred to the financial services complex, we can still get wealthy by investing in the best-managed, most-fundamentally sound U.S. companies.
The same cannot be said about the other two, more insidious, ways by which the U.S. stock markets are “rigged.” Namely, the conspiracy on Wall Street to goad you into short-term thinking and unnecessary, even reckless trading – and most important, the industry’s systematic attempt to rile up your emotions. Not only can both efforts deal a blow to your long-term returns and profits – by succumbing to either manipulation, you can systematically rob yourself of your critical capital and principal. This is the one sense in which the market is rigged by the “professionals” that could make me suggest to my clients that they might be better off avoiding the stock market altogether.
Of course, in my view, that would be a shame. The costs of abandoning stock investments can be exorbitantly high, even insurmountable for investors like us hoping to retire in comfort. Fortunately, there is a better solution. And that’s simply taking a few easy, fairly obvious steps to inoculate your investment portfolio against these negative influences. In fact, if you can commit to these simple steps, you can turn the tables on the financial services industry and actually begin to take money from them.
Step One: Stop trading. Invest for the long term: Most every attempt by professionals to “rig” the market can be sidestepped if investors would only adopt this one simple mindset. In fact, the one advantage we have as individual investors over market manipulators, including high-frequency-traders, is that they by necessity think in minutes and seconds, while we can think in terms of years – even decades. Stock prices can be manipulated, but only for so long. Eventually, fundamentals rule out and stocks trade at something approximating their fair values. Keeping a long-term perspective is your best defense against share-price manipulation. Likewise, by keeping your trading to a minimum, you limit the opportunities to be nickel-and-dimed by poor execution and/or outsmarted by a more experienced trader.
Step Two: Only invest in high-conviction ideas at reasonable prices. Remember, certain constituents on Wall Street systematically profit from extreme swings in market sentiment. You must stay above the fray. Of course, it’s easy to say you will stay the course when markets plunge or will resist chasing overvalued, overhyped market darlings in the late stages of bubbles. It’s much harder to actually do it. The surest way to guarantee you will keep your head at market extremes is to invest in high-conviction ideas you have thoroughly researched and understand. It also helps to maintain a well-considered, realistic handle on reasonable valuations for every stock you own. Don’t worry. This is not half so difficult as it sounds – and there is help available if you need it.
Step Three: Keep costs low, have a plan, and stick to it! Again, high costs are a real concern for investors looking to get seriously wealthy in the markets. One of the surest ways to boost your annual returns is to keep your costs in check. A percent or two per year might not sound like much, but the results on your long-term wealth can be epic. The surest way to squash costs is to assume charge of your own investments, at least to the extent you’re comfortable. Developing a plan and sticking to it likewise helps you sidestep the industry’s attempts to profit from your emotions – giving you the courage ahead of time to take profits when share prices defy fundamentals and, most important, buy discounted shares when prices irrationally plunge.
I know it sounds simple, but seriously. If you can keep these three steps in mind, you will already be a long way toward assuring that you survive and thrive in a “rigged” market. If they strike somewhat less arcane than you expected, that’s by design. Remember, Wall Street mystifies investing unnecessarily in an attempt to make you uneasy and attract your money. My goal is to empower you and make you money.
If any of these steps seem daunting, that’s only natural. Remember, Wall Street insiders and big money traders go to great lengths to keep you on edge. If nothing else, I hope you will at least give these practical solutions some serious consideration. Even better, if you’re not comfortable going it alone, there’s an unusual solution I hope you’ll consider.
As you now know, my goal is to help individual investors like you get their share of the awesome wealth generated by the U.S. stock market. This is the theme of my Fox Business show, “Making Money With Charles Payne,” and a big part of what I do at my independent research firm.
Later this month, I’m taking one final important step to further my pursuit of this ambitious and important mission. I don’t exaggerate when I say that I consider it one of the most important endeavors of my 20-plus-year career – and that it’s very dear to my heart.
The full details are being hammered out. Though I can tell you that what I have in mind is quite unlike anything you’ve experienced before. It will give you unprecedented access and insight into my investment process, drawing upon the combined resources of my position in the financial and mainstream media – and my “tuned-in” status and connections as a practicing Wall Street professional.
Including my very best, most immediately actionable investment ideas and active portfolio guidance you simply can’t get anywhere else – perhaps short of enrolling as as an institutional client of my independent research at a cost of thousands per year.
You can see why I expect interest in my unusual project to be high. I can’t wait to tell you more about it, including what makes it so unique and the benefits you can expect if you decide you’d like to join us.
Please keep your eye on your inbox for more information and details over the next few weeks. I’ll also forward more reports like this one just as soon as they are ready.
Beginning with my next report detailing three specific investments you can make today as your first important step to help you profit regardless of what the dirty players on Wall Street throw at you.
Then be sure to be on hand on Wednesday, May 20, 2015 for an important announcement from me – and your personal invitation to join me in my unusual wealth-building project.
Editor, Smart Talk