Retail Investors + Complex Investments = Failure

I feel like Will Ferrell in The Wedding Crashers uttering his signature line, “What is she doing back there?” The only difference is that he is wondering when his meat loaf is coming while I am pondering when retail investors are going to wake up and adopt a realistic view of their investment abilities. I’m sure Will’s ma brought that meat loaf a hell of a lot faster than most retail investors will say, “You know what, I’m not as smart as I think I am. Smart investing is pretty complicated and is a serious business.” As IA readers know, idiot retail investment ideas and approaches are a pet peeve of mine and drive me absolutely bonkers, and my ire was raised to a fever pitch when reading a thoroughly disgusting article in Tuesday’s Wall Street Journal titled Small Investors, Too, Get Nailed by Arcane Trades. I have only one simple question upon hearing this news: WHY???

So glad you asked. Here are my theories (in no particular order):

1. Hubris
2. Greed
3. Stupidity
4. Fear
5. Lack of knowledge
6. Because most humans are wired to make dumb investment decisions

When I hear of retail investors engaging in multi-legged option strategies, trading foreign exchange and commodities and shorting stocks, I cringe. How many lumps are people going to require to wake up and grow a little humility? I get it - the psychological phenomenon, that is - but I DON’T GET IT. There have been countless stories documenting the sheer idiocy of so many retail investors, being in way over their head and getting killed. So why do people continue making the same mistakes? For the exact opposite reason of why Warren Buffett really is a once-in-a-generation type investor: discipline.

Discipline, especially when it goes against one’s native instincts, is hard. When your friend brags about a particular stock or strategy on the golf course, you are jealous, right? And when you hear stories of people making tons in _____ (choose your era - tech stocks, commodities, currencies, gold, etc.), regardless of a lack of documentation (self-reporting is notoriously poor as people tend to remember wins and forget losses), you want in, right? It is very hard to be the tortoise when you are seemingly surrounded by hares. But you know what, you can try your hand a bit if you adhere to a few simple guidelines:

1. Set an asset allocation mix that makes sense for your age, stage, family circumstance, etc. If you can’t do this with confidence get some help;
2. Establish the majority of your allocation using low-cost, liquid instruments like index funds and ETFs;
3. Figure out if you want to try and dicker with investing at all, and if the answer is yes;
4. Limit your “play money” to 5-10% of your total portfolio.

By all means have some fun. Do some research. Collaborate with others. Try and generate some real alpha. But don’t, DON’T have this be the core of your investment strategy. Please. Don’t. Do. It. If you follow my advice you can get the high of investing without running the risk of an overdose. Because an overdose can kill you.

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