Wednesday, March 28, 2012

Sears, The Indomitable Investor

Steven M. Sears, options editor and a columnist with Barron’s and Barrons.com, has written a first-class book for the retail investor. The Indomitable Investor: Why a Few Succeed in the Stock Market when Everyone Else Fails (Wiley, 2012) draws on the wisdom of top investors, academic research, and insights from the options market to steer individual investors in the right direction. Even when the material is familiar, Sears manages to make it compellingly fresh (and freshly compelling).

I can do neither in this review, which means the book may seem to be one you’ve read a hundred times already. Well, I figure I’ve read more books on investing than most folks, and I haven’t read it before. This book may not break a lot of new ground, but at critical junctures it has a way of pushing an investor’s reset button.

Akin to Hippocrates’ admonition to do no harm (yes, I know this phrase is not in the Hippocratic oath itself), Sears implores the investor to focus on risk rather than profit. The critical step in changing how you approach the market is the “good investor rule—thinking first of how to not lose money, rather than how to make money.” (p. 12)

After chapters on greed and fear (note the inversion of the most common ordering of these two investing emotions) and an “anatomy” of information, Sears turns to volatility, “the stock market’s central nervous system.” Volatility, Sears argues, “is globalization’s destructive side effect.” Especially troublesome is the fact that “everything is touched by derivatives contracts that sit in all the spaces between bond and stock markets, essentially unifying all the world’s markets so that if one part stumbles, the problem infects other markets like a super virus. This makes volatility a constant market hobgoblin, and one that is increasingly violent, as the world’s largest, most sophisticated investors are increasingly chasing fewer and fewer opportunities to make high returns on money.” (p. 82)

Sears suggests that all stock investors should follow the VIX because “it is to investors what canaries are to coal miners.” (p. 88) He also recommends that the investor make his volatility analysis more accurate by tracking skew. (The CBOE’s SKEW Index—symbol SKEW—has ranged historically between 101.09 and 146.88; a high reading indicates greater odds of a sharp market decline.)

Sears introduces the reader to three cycles that influence stock market activity: seasonal patterns, secular patterns (which “occur when a stock or sector creates its own reality independent of the overall market”—think Apple), and economic patterns. To keep an investor’s information flow manageable, he suggests focusing on seasonality and the ISM data.

The investor is usually his own worst enemy, as has been amply demonstrated by behavioral finance. This literature has been summarized to death, so Sears relies on less familiar material to make his points. For instance, according to a recent presentation by Whitney Tilson, 19% of people think they belong to the richest 1% of U.S. households. Talk about an overconfidence bias!

The Indomitable Investor is full of insights, recommendations, some funny stories, even a couple of jokes. Sears skewers many on Wall Street and in Washington, yet the thrust of the book is not negative. Sears is trying to make the retail investor savvier, a worthy opponent of the so-called smart money. All in all, a well written, thoughtful, useful book.

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