How much do investors lose from conflicted advice?


Investors worldwide turn to financial advisors when making key decisions such as whether or how they should convert an employer-based retirement account (such as a “401(k)” account in the U.S., an “RRSP” in Canada, “Super” in Australia) to an individually-directed retirement account (such as an individual retirement account or “IRA” in the U.S.). However, such financial advisors are typically compensated, directly or indirectly, in the form of fees and/or commissions from funds and other investment products. Not surprisingly, their recommendations are not always in the individual customer’s best interest.

A U.S. government report, released 19 February 2015 by the

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Swiss franc episode exposes risky investments

A Swiss chocolate surprise

The surprise move of the Swiss National Bank on 15 January to abandon its cap on the euro exchange range sent shock waves through global markets and exposed numerous instances of investment funds and trading operations that had made too-risky bets in the currency markets. Among the casualties are the following:

Everest Capital’s Global Fund (the largest fund under Everest management) had to close its doors after losing virtually all of its money (nearly US$830 million). According to a Bloomberg report, the fund had recently bet that the Swiss franc would decline. Alpari, a London-based brokerage

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How have 2014 market prophets fared?

Predicting the future has never been easy, but the standard today is the same as in ancient times: does the prediction come true? As an ancient Hebrew author wrote, “When a prophet speaketh, … if the thing follow not, nor come to pass, … the prophet hath spoken it presumptuously: thou shalt not be afraid of him.” [Deut. 18:22].

Time is running out for 2014 market predictors. So how have they fared? Are prophets good at making profits?

A rough year for hedge funds

At least one sector of the finance world has a disappointing record so far: the hedge

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Dubious digits: Is this data really that accurate?

When numbers of any sort are presented, whether in mathematics, science, business, government or finance, the default assumption is that the data presented are reasonably reliable to the last digit presented. Thus, if a light bulb is listed as using 3.14 watts, then its actual usage is presumably between 3.13 and 3.15 watts, and certainly not 2.8 or 4.2 watts. Or if the average interest rate paid on a set of securities is listed as 2.718 percent, then a reasonable reader presumes that the actual figure is between 2.717 and 2.719 percent.

The total number of significant digits can vary

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Index investing: “Confidence in the mathematics”

One central difficulty of investing, both in the U.S. and internationally, is that most individual investors are not sufficiently well-informed on financial matters (or else are not sufficiently disciplined in their approach), and thus often make less-than-optimal choices in managing their long-term savings. The 2014 DALBAR report, for instance, concluded that over the past 20 years, individual U.S. stock fund investors achieved only a 5.02% average annual return, which is considerably less than the 9.22% they could have achieved simply by investing in a S&P500 index fund. Results for other asset classes are similar.

In fact, analyst Richard Bernstein has

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Is “cherry picking” a factor in hedge fund performance?

Challenging times for hedge funds

Recently attention has been drawn to the fact that the advantage enjoyed by hedge funds over more conventional investment vehicles has been eroding. For example, the annualized “excess return” of the HFRI equity hedge fund index (adjusted for certain factors, 60 month rolling average) has declined from approximately 15% in 2000 to less than 2% in 2010, and actually has been negative over the past two years. In particular, the average year-to-date hedge fund return (as of September 2014) is only 2%, compared to the 7.27% rise in the S&P500 index. Similarly, only 23% of

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New online tool to demonstrate backtest overfitting


We are pleased to announce the availability of a new online tool to demonstrate and analyze the phenomenon of backtest overfitting. It is available HERE. It was developed by researchers at the Scientific Data Management Group at Lawrence Berkeley National Laboratory, with contributions and suggestions from several other persons. A complete list of contributors is given below.

In finance, “backtest overfitting” means using historical market data (i.e., a “backtest”) to develop an investment strategy, where too many variations of the strategy are tried, relative to the amount of data available. Overfit strategies typically work well when tested against

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How financially literate are individual investors?


A June 2014 study released by the Employee Benefit Research Institute concluded that many U.S. Baby Boomer and Gen Xer households are expected to run short of money in retirement (assuming 35 years in retirement): 83% of those in the lowest income quartile, 47% in the second quartile, 28% in the third, and 13% even in the highest income quartile. Another study concluded that more than half of future U.S. retirees will rely on Social Security for at least 50% of their income.

Part of the difficulty stems from the fact that many workers, both in the U.S. and

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SEC to propose new rules for high-frequency trading

On June 5, Mary Jo White, Chair of the U.S. Securities and Exchange Commission, sketched some proposed changes to regulate high-frequency trading (HFT). Her full speech is available from the SEC website. Some analysis can be read in the New York Times and Bloomberg News.

Synopsis of White’s comments

White surprised many observers by stating that investors are doing better in the algorithmic trading regime today than they did in the “old manual markets.” She noted that for institutional investors, the cost of executing a large order is roughly 10% lower than in 2006, and the spreads between bid and

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Latest DALBAR report underscores poor long-term performance of individual investors

As we emphasized in a December 2013 Mathematical Investor blog, individual investors are not very well equipped, and certainly not very effective, in managing their own investment portfolios.

This is unfortunate, because fewer workers than in the past, particularly in the U.S., are covered by a “defined-benefit” retirement system, namely a pension that guarantees a certain proportion of one’s income at retirement, based on the number of years in service, in perpetuity until one’s death. Instead, the majority of the growing army of American baby boomers (according to the Population Reference Bureau, 76.4 million Americans were born in the period

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