What the Red Sox can teach us about investing

John Osbon | October 18, 2011

(8 mins to read)

You know the unseemly facts. Our beloved Sox were leading the AL East in late August. When they slipped to second, they had a nine game lead on Tampa Bay for the wildcard playoff slot. Finishing 7-21 over the season’s final month, the wildcard got away too. It still makes you a little sick, doesn’t it?

What’s this unhappy tale teach us about investing? 

The implosion by the Sox reminds us of two important truths in both sports and investing: 1) Past performance is no guarantee of future results, and 2) No one blows a trumpet announcing that a winner is going to start losing.

They were right until they were wrong

Last week I described the fall from grace of Pimco’s Bill Gross and Legg Mason’s Bill Miller. Both had been recognized and revered as do-no-wrong fund managers…until they made big bets in the wrong direction.

Gross dumped Treasuries early in 2011, counting on a rise in interest rates that never happened. Several years earlier, Miller undid a 15 year streak of beating the S&P 500 by loading up on Bear Stearns, Lehman Brothers, Fannie, Freddie, and AIG just before the financial industry cratered.

Gross and Miller had been spectacular in selecting securities…until they were spectacularly wrong.  Miller’s fund lost 55 percent in 2008, far, far worse than the S&P’s 34 percent decline. Big deal, right? Every manager has an off year. Except this miss was so bad that his ten-year return fell below that of the benchmark index. A decade of winning down the drain.

Only buy stocks that go up

These big reversals are no problem, of course, if you just sell before the decline. Just lock in all the gains and avoid the losses. As appealing as this may sound, it’s no more realistic than Will Roger’s famous Yogi Berra-esque investing advice: “Only buy stocks that go up. If they don’t go up, don’t buy them.”

Unfortunately, with no blaring trumpet, Twitter blast, or dancing bears to announce when winners will reverse in direction, investors can get stuck with tragic losers. For instance, John Paulson is famous, or infamous, for personally making $4.9 billion dollars in one year by betting against mortgages in 2008.  That was then. Paulson’s flagship Advantage Plus Fund is down 47 percent so far this year, as he bet wrong on an economic expansion that remains AWOL. Oh well.  If he’s up 89% for the rest of the year, his investors will be back to even.

Bet on sports, not your financial future

A friendly wager on sports can add to the thrill of the game. And once in a while you catch a miracle like the 2004 Sox who came back from a 3-0 playoff deficit to win the AL pennant, and then swept the Series.

We had no warning in 2004 that the Sox could pull off such an unprecedented comeback, and no warning that the high flying 2011 Sox could find a way to miss the playoffs. That’s the excitement, intrigue, and heartbreak of sports.

I say wager whatever you’re prepared to lose on the Sox, Bruins, Celtics and Pats, but when it comes to investing, buy and hold a diversified portfolio of index ETFs. Betting on a hot manager or stock can leave you feeling sick.

 More blog posts from Osbon Capital.

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