Investment advisers have earned a reputation for living the high lifestyle, taking big risks, and achieving big gains. Part of this reputation was built in news headlines that included covered fantastic merger and acquisition deals, stock market dips and peaks, and a few people going to jail. Part of this reputation was built through clever advertising (“when E.F. Hutton speaks, people listen”, “Smith Barney makes money the old-fashioned way; they EARN it”) and through popular books and movies.
Reputation rarely reflects reality, of course. So when you set out to make important investment decisions, how much are you influenced by the reputation of the advisers’ industry and of their own success? This question is critical to making the right decision because you may be too easily swayed by the emotions that powerful reputations evoke.
Steve Schwarzman, co-founder of the Blackstone Group (a “storied” company by any measure of the word) told an audience of students in February 2015 that they should not be in such a rush to start their own firms. Wall Street has oft been compared to Silicon Valley for making rapid fortunes, but Schwarzman eschews that comparison. He says that failure is not an option in the world of finance. Instead of learning from it you may just find it destroys you.
The average investor may be no better off staying with the large, storied firm than with a young rising star who has decided to set up his own fund. Over 30 years of research shows that on average index funds outperform active fund management. And yet investment management companies continue to do well at least in part because investors believe that active fund managers are in a better position to find good deals.
We investors stand in the cross-hairs of multiple studies that target our passions and our beliefs. The choice of how to manage investments is critical at every stage, especially because you cannot take back bad decisions or double down on good decisions. Time seals everything in immutable concrete and you have to live with the consequences of your choices.
Schwarzman’s advice to young financial gurus is to acquire as much experience as they possibly can in the high-pressure world of Wall Street finance before setting out on their own. It isn’t enough, he says, to just know how the markets work. You have to build up a network of connections to work with. And this is important for investors, too, even small ones.
Many years ago while speaking to a friend who worked for a telephone company I was hardly paying attention to what he was saying until he casually mentioned that his boss was thinking about buying another telephone company. My friend didn’t realize he had just conveyed inside information to me. I knew I could not act on the tip but about a month later I mentioned the conversation to someone who was describing his investment strategy to me. He said he didn’t believe that large utilities were good investments. “Unless one is about to be purchased,” I said. “You never know what may be in the works.”
We left it at that but not long afterward news came out about one telephone company buying another. Had I acted on my information I could have made a nice profit. But I might also have risked investigation. The real missed opportunity here, however, was for my other friend. He could have bought some stock and never said a word to me. He eventually told me he did not think much about our conversation. I would not have gained anything from his investment; nor would my source.
Networking is as important outside of the financial offices as inside it. You want to cultivate sources of legal information that help you see down the road, especially if you are working with a financial consultant who may not be able to tell you things. You should never say to your broker, “I heard from an insider that this company may be about to move”. But if your connections provide you with enough information to fill in some gaps and make good guesses, your own investment strategy may prove to be just as good as the broker’s.
A casual, small-budget investor may never stumble across useful information like this. But a well-connected financial consultant, who stays within the framework of the law, may make all the difference in the world for you. That is what you pay for when you sign up with an investment company: their connections and their ability to leverage those connections (legally) to help you make money.
