By John Reizner |
Many advisors on Wall Street, including many mutual fund managers, many hedge fund managers and many bank trust departments, fail at their primary task: preserving and/or growing their clients' capital.
Such managers may suffer from the" institutional imperative," or "group think." This is where the players in the market may be blinded by the raw emotion (bullish or bearish) of a given market's movement or trend and act accordingly with the will of the herd.
For example, when the stock market rises strongly, it may create excitement among the players which may entice money managers to be caught up in the buying panic. They may lose sight of the bigger picture or just may not execute their original investing plan effectively. Group think hinders independent thinking and creativity that is so crucial to achieving success on Wall Street.
Please see my article: Stock Market Investing and the Power of Contrary Opinion, which posits the theory that better investment results may be obtained by investing in a manner contrary to the crowd.
Here are examples of group think:
The herd of investors may follow the latest trends or investment fads. An example of this was in the great technology bubble of the late 1990's, which like many fads, ended badly. Many investment managers got caught up in the euphoria of ever increasing technology stock prices and may not have sold before the ensuing bear market that began in 2000 decimated many technology issues.
The current credit crisis may be the result of a huge real estate bubble. The bear markets in real estate (when many consumers, mortgage brokers, banks, and investment managers believed in or enabled the fairy tale of ever increasing housing prices) and in the stock market has wiped out consumer and corporate wealth on a wide scale.
Many managers before the 2008 Crash in stocks were enamored by derivatives instruments, the hedge fund fad, and the buoyant housing market (and the securitization of loans), all which have turned out quite badly.
Please see my article, Hedge Funds: Four Reasons Why You Should not Invest in Them. The unwinding of hugely leveraged hedge fund positions continues to pressure the stock market.
The causes of the housing and credit breakdown may be related to bank and mortgage company officers freely granting outsized mortgages to consumers that had no hope to repay, with all having a mindset that nothing could stand in the way of the housing locomotive. Most of the participants and many investment managers subscribed to the dream of the Ownership Society, a dream that was achievable in moderation but frayed at the edges when houses were literally being given away to all takers who could sign a form.
Mass defaults in subprime loans cascaded into a fully fledged credit crunch as housing values topped out and turned downward. Lenders only lend to the most creditworthy customers. The economy has ground to a halt, housing prices has continued to fall, the credit and stock markets have been paralyzed, and unemployment has increased.
So it was all a dream. Money managers who followed the hedge fund fad found themselves saddled by their funds' leverage which was working against them. Bank trust fund departments, who often work by committee or have "approved stock purchase" lists," may not have been nimble enough to avoid the Crash of the market. Even good bear-market resistant mutual fund managers may have been caught off guard except for a very few in this "take no prisoners" market.
In number three of the FAQ's of my website, I posit a simple way of finding the better mutual fund managers by using the Forbes Magazine grading of the mutual fund universe. My book adds that it may be better to select managers with good track records in difficult markets, an idea which may have served the average investor well in this bear market.