Can You Beat the Market?
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Can You Beat the Market?

♪ [music] ♪ [Tyler] On average, even professional money managers
don’t beat the market. Why not? It’s not because
money managers aren’t smart. I know people in this sector,
and they’re very smart. Rather, it’s a reflection
of the power of market prices to quickly reflect
available information. This leads us
to Investment Rule #2: “It’s hard to beat the market.” First, let’s consider
some possible investment advice. You’ve probably heard that the American population
is getting older — and that’s true. The number of people
aged 86 and over, for instance, is projected to increase
dramatically over the next several decades. To profit from this coming aging
you might think, well, you should invest now in products that the elderly
will want or need, such as nursing homes,
pharmaceutical firms, and companies
that make reading glasses. That’s good advice, right?
Well, no, not actually. What I just said was
useless investment advice. Why? It’s useless because the aging
of the U.S. population isn’t a secret:
it’s public information. And so the value
of that information is already incorporated
in stock prices. Suppose, for example, that
you took this investment advice and went out
and bought some shares in a firm that manages
nursing homes. For every buyer, there’s a seller. Why is the seller
of those shares selling? Doesn’t the seller know that the American population
is aging? Of course that’s known! And so the price already reflects
this public information about the aging. So don’t expect
to make extra profits based on public information. In other words, if your theory of why a trade is going
to be really profitable is that the person on the other
side of the trade is dumb. Well, that’s usually a bad theory.
Maybe you’re the dumb one. This idea is the foundation
of what is called the Efficient Markets Hypothesis. The prices of assets,
such as stocks and bonds, reflect all
publicly available information. And that means, if you’re investing
based on that information, you won’t be able to systematically
out-perform the market over time. Think about it this way: on average, buyers have
just as much information as sellers, and vice versa. So that means a stock
is just as likely to over-perform the market
as it is to under-perform. That’s why Burton Malkiel
called his book, A Random Walk Down Wall Street. In fact, the mathematical models
used by economists to understand the motion
of stocks and stock returns are the same models
developed by Einstein to explain Brownian motion: the jittery random movement
of small dust particles as they’re bumped into
and buffeted about by atoms and molecules. Stock returns are hard to forecast because old information is already
incorporated in stock prices, and new information is
by definition unexpected, or random. What if you’ve got a hot stock tip? Can you then beat the market? It’s still highly doubtful. New information comes
to be reflected very quickly in prices. Here’s an example: At 11:39 Eastern Standard Time on January 28th, 1986, the space shuttle Challenger
exploded in a great tragedy, killing everyone on board. Eight minutes later, that news
hit the Dow Jones wire service. Things were slower back then
before instant messaging. The stock prices
of all the major contractors who had helped
to build the shuttle, such as Morton Thiokol,
Lockheed, Martin Marietta, and Rockwell International,
all fell immediately. Now here’s what’s
really interesting. Six months after the disaster, a commission was set up
to investigate the cause, which turned out to be
the failed O-rings made by Morton Thiokol. Now let’s return
to the day of the crash. On that day,
Lockheed, Martin Marietta, and Rockwell International
all fell by 2-3%, but the stock of Morton Thiokol
fell by over 11%. The market had correctly
figured out that Morton Thiokol was the most likely
cause of the disaster, and within hours
that information was reflected in market prices, even though a formal investigation
had not yet begun. In essence, the people
with the best knowledge about the likely causes
of the crash could either trade themselves, or tell other people how to trade. And so some investors
started selling, and the price of the Morton Thiokol
shares started falling, and that new and lower price
was reflecting the new and lower value
for the company. Now that was back in 1985. Nowadays, new information
starts to change markets, not in hours or minutes,
but in seconds or milliseconds — literally faster
than the blink of an eye. Okay, now one important point
before we conclude. Stock prices aren’t
pure random walks, but rather random walks
with a positive upward drift. It’s how well you do relative
to the average market return, which is hard to predict. On average, investors can expect
to make money over time, and in this sense, some broader
general predictability is present. Okay, so Investment Rule #2 says you shouldn’t expect
to beat the market. So how should you invest? That’s the issue we take up next. [Narrator] Check out
our practice questions to test your money skills. Next up, Alex reveals
how an old saying leads us to Investment Rule #3. ♪ [music] ♪

About Ralph Robinson

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19 thoughts on “Can You Beat the Market?

  1. Love the video! There are 2 ways to beat the market by a long shot. 1- learn the skills of day trading. Very hard and it takes time and patience. Or 2- Get into resource investing and buy he stocks when the commodities are at least at a 3-5 year low. The second strategy takes guts, but I've made over 300% on my money doing that this year.

  2. Of course, markets aren't perfectly efficient, and they do make mistakes. Nintendo's stock price adventures following the release of Pokemon Go is an interesting recent example.

  3. Completely wrong!

    While it's true that it's not reasonably possible to get rich quick in the stock market, it is extraordinarily easy to beat the market.

    The secret is to buy dividend stocks and/or share buy-back stocks during market corrections, while avoiding obvious losers that have major financial problems.

    You won't get rich quick with this strategy, and you will have losers from time to time, and you will occasionally not beat the market. But the gains over 30 years will be at least triple the gains produced by the market/index funds.

  4. One could rationalize the fall in the price of that Morton Thia-whatever's stock as the efficient markets working with near clairvoyance. Or: it only proves that 'the masters' had planned the whole accident and had planned to profit from it, in another ploy to cover up the faked moon landing.

  5. Invest in sexbots, ice cream, cat food, and uterine cancer research, you know, from the stupidity of the millenial generation

  6. What about the "public information" of environmental conditions or future conditions that is often not the concern of governments?

  7. Well the efficient market theory has been demoted to efficient market hypothesis. Had one invested in Facebook 5 years ago, its return is higher than the average market. Had one give all her money to Berthshire Hathway 10 years ago, one would have return higher than the market.

    Efficient market hypothesis is taking what physicists have produced and trying to find examples to justify because it is like the word "blockchain". You cannot go wrong if you ride the buzz word of the time or the theory of the time.

  8. Buffett and Munger disagree with this theory. Some say, oh, they have more information than others. When they first started, they did not have this information, and they still beat the market. The market is irrational because people do not always behave rationally.

  9. wrong, no such thing as predicx power about marketx, that was a fluke from earlier previous reports, also, no such thing as interesx or not

  10. What role do financial engineers which have come up in recent decades play in this? I mean I never understand what they say except that they use a lot of statistics and modelling.

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