Five reasons the investment industry may work against some investors – Financial Post

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A bear market invariably causes investors to say things such as “the whole market is a scam,” or “the only people who get rich are the brokers.”

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It is, of course, human psychology to blame others when things don’t go as expected. We are not going to change that. But the market is not a scam, and such statements dismay us. People who believe the scam line are doing themselves a disservice, and will likely never get wealthy. But that is the topic for a future column.

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Today, we will certainly agree that the market and the investment industry itself are far from perfect — sometimes very far. Let’s look at five reasons the investment industry may work against some investors. Being aware of these issues might save you some money, prevent panic or at least educate you on what you should do rather than what you have been doing.

Too much focus on the short term

All investment eyes were on exactly one data point this week: the consumer price index (inflation) number in the United States. Next, everyone will shift to corporate earnings reports. Sure, these are important when looking at the market, but one economic number — or one quarter of earnings — should not form the basis of your entire investment portfolio.

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We know many investors who will sell a company after one bad quarter. But the best companies play the long game: focusing on long-term gains, even spending more money in the short term to get there.

If you own a stock, you should strive for at least a five-year holding period: you want that compounding to work for you. Looking so closely and reacting to a 90-day period out of 1,825 days (not counting leap years) is likely doing your portfolio a huge disservice.

Fees are too high

We could easily talk about adviser fees here, or the favourite whipping boy, mutual fund expense ratios. But we are going to talk about investment bankers, initial public offerings and structured products.

How much do you think investment companies get paid to sell a hot IPO? Generally, investment bankers get three per cent to five per cent on a deal. Think about this: on a $2-billion IPO, bankers can make $100 million. On popular deals, clients are clamouring for stock allocation, so it’s not like it’s hard work to sell the shares. Yes, plenty of work is needed before a company goes public. But $100 million? For the life of me, I can’t figure out why competition hasn’t lowered these fees.

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The same comments would apply to closed-end fund financings, structured products and regular (non-IPO) stock sales, though the fees are not quite as high in the latter cases. Guess who pays for these high fees? You do through your investments when the companies have less capital after providing investment bankers with their cushy lifestyle. Seeing investment bankers driving around in Lamborghinis as we head into a recession does not help the image of the investment industry at all.

Too much focus on macro issues

This year has been a challenge for stock pickers because companies do not matter now. It is all about inflation, interest rates and geopolitical events. There are debt-free companies with high margins and growth rates in the 70-per-cent range, yet their stocks are half, or less, of what they were seven months ago.

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Everyone worries about the macro picture, and no one cares about the companies. But guess what? You own part of a company when you buy its stock. You don’t own gross domestic product. You don’t own inflation. You don’t own interest rates. You own a company. Many companies will continue to grow and thrive despite the bad economic headlines. Don’t forget what you actually own.

Lower commissions are bad for you

After launching in the United States, free stock trading has now started to expand in Canada. But are trading fees of $0 good for investors? Well, contradictory to our comment above about fees in general, we think free commissions are bad for investors.

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Zero commissions encourage trading, and trading can seriously hurt your long-term returns. Low-cost trading causes you to react rather than invest. You are more likely to sell on one piece of bad news, and more likely to take a 10-per-cent short-term profit rather than a 1,000-per-cent profit though longer-term compounding.

Too much emphasis on stories

In the past two years, there’s been tons of media exposure on a few companies and sectors, such as GameStop Corp., AMC Entertainment Holdings Inc., the electric-vehicle industry, the cryptocurrency sector and special purpose acquisition companies (SPACs). The media loves these sectors, they generate investor interest and trading, and result in a lot of FOMO amongst investors. But, really, are they that important?

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GameStop is a US$10-billion company in a declining industry. AMC is US$8 billion. They hardly matter at all in the big picture of the investment world. But together they account for more news stories than most large companies can ever hope to achieve. We ran GameStop through Google and got 143 million hits. We also ran AbbVie Inc., a US$270-billion company (27 times as large as GameStop) and got only 32 million hits. Investors need to put far more emphasis on the larger, important companies rather than the tiny companies that generate exciting headlines.

Peter Hodson, CFA, is founder and head of Research at 5i Research Inc., an independent investment research network helping do-it-yourself investors reach their investment goals. He is also portfolio manager for the i2i Long/Short U.S. Equity Fund. (5i Research staff do not own Canadian stocks. i2i Long/Short Fund may own non-Canadian stocks mentioned.)

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