The Smart Stockbroker

 
Imagine you receive 10 tips on on 10 different days for different stocks, on whether the stock will go up or down and imagine they are true.  Would you be willing to pay for the 11th tip ?   Most people would.

What you know is how many times he got it right but not how many times he got it wrong.  Lets give you some more information, the broker on the first day for the first tip sent a tip to 10,240 for the same stock.  To half he said the stock will go up and the other it will go down.
For his second tip, he sent a tip to the 5,120 people that he predicted correctly for in the first tip, the other that he was wrong with, never heard from him again.

For the 3rd he is down to 2560 and so forth.
Looking at the above you may say its a scam, but lets tweak the game a bit and add some fuzz.  Lets say we create a fund made of of 1000 different stocks.  We first invest our own money into it and do not make it available to the public, we monitor it internally for a period of time, this is known as the incubation period.  Lets now create 10 different funds, with different mix and incubate them all.

At the end of the incubation period, we launch to the public with great marketing fan fare to say the super growth proven fund has been growing at 22% over its lifetime.  What they will not tell you is the other 8-9 funds that only grew at 2%-7% or even lost money.  This is exactly how funds are launched into the market, so be very careful about investing into a new fund, as the incubation period does not guarantee that they mix is correct or that the future will be as good as the past, if you want a safe bet, you are better off investing in a fund that has been in the public domain for a longer period of time.

In fact, statistics show, that these high performing funds more often then not end up becoming median funds, no different to others in the market.  Its like playing scrabble with an 8 year old, who closes his eyes and picks out the letters out of the bag, but if he doesn't like the letters, he closes his eyes and picks again, until he picks the letters he like.

Lets look at another claim.  If you had invested in the top 50 stocks of the FTSE 500, 30 years ago then you would have had a CAGR of 15%.. impressive.   What this is implying to the unsavvy investor is that they should invest in the top 50 stocks of the FTSE 500, but if you go back 10 years and look at the top 50 stocks at that time and compare to what has happened to those 50 stocks today, you will find that some did perform well, others sunk, mediocre performance and a few may no longer be around.   Looking at the winners today and then going back in time to invest them is not a luxury we have.

Happy investing.