Today, I’d like to ingrain in you the importance of adopting the right beliefs about the market.
Now, I know some of you won’t be able to hear this ultra-important message.
That’s because your belief is that making money in the markets is all about numbers and indicators and that things like mindset and discipline are not important.
But nothing could be further from the truth.
The more I work with great traders and new investors alike out there, the clearer it becomes that market beliefs and trader mindset are what sets apart the “Thrivers” from the “Strugglers.”
I’ve always liked the statement that we don’t trade the markets, we trade our beliefs about the market.
But it only covers part of the picture.
Even more important is that you have beliefs that actually reflect how the markets work.
And to illustrate that point, I want to share a fun experiment with you today…
One belief that every investor has to overcome is that market movements are random.
This concept is rooted in the long-held belief that all market participants have perfect information and that they all act rationally – all the time.
Here at The 10-Minute Millionaire, we know that’s not true. We know that investors fall prey to their emotions constantly and make irrational decisions that we can then profit from.
But we weren’t the first ones to test the theory.
In 1988, the Wall Street Journal began a contest that was inspired by Burton Malkiel’s book “A Random Walk Down Wall Street.”
In the book, the Princeton Professor theorized that “a blindfolded monkey throwing darts at a newspaper’s financial pages could select a portfolio that would do just as well as one carefully selected by experts.”
The Journal set out to create an entertaining contest to test Malkiel’s theory and give its readers some new investment ideas in the process.
Here’s how it worked…
No Monkey Business
WSJ staffers, acting as the monkeys, threw darts at a stock table, while investment experts picked their own stocks.
Interestingly, the WSJ actually considered using real monkeys for the dart-throwing task, but the cost and liability issues nixed the plan.
The rules changed modestly early in the contest, but the bulk of the results fell under rules that are as follows:
Each month four “professionals” were given the opportunity to select one stock (long or short) for the following six months.
The stocks had to meet the following criteria:
- Market capitalization must be at least $50 million.
- Daily trading volume must be worth at least $100,000.
- Price must be at least $2.
- Stocks must be listed on the NYSE, AMEX, or NASDAQ and any foreign stocks must have an ADR.
And after 100 contests, the results were in.
The pros won 61 of the 100 contests versus the darts. That’s better than the 50% that would be expected in an efficient market.
On the other hand, the pros losing 39% of the time to a bunch of darts certainly could be viewed as somewhat of an embarrassment for the pros.
Additionally, the performance of the pros versus the Dow Jones Industrial Average (DJIA) was less impressive on a percentage basis.
The pros barely edged the DJIA by a margin of 51 to 49 contests.
But those “qualifications” miss the real heart of the results: when you look at what matters – the real gains – the pro’s picks absolutely crush the dartboard and DJIA returns.
The pros average gain was 10.8% versus 4.5% for the darts and 6.8% for the DJIA.
From my perspective, the average amount of actual percentage outperformance is much more important to profitability than the frequency of winning or losing.
In fact, if the pros had had even half the advantage of 140% versus the darts or 59% versus the DJIA, this would have been an impressive performance.
In general, the objections to the results of the very public, very long-term experiment (it lasted 14 years) can best be qualified as academic nitpicking in a lame attempt to defend the theory that markets are efficient and rational.
But the big question here is this: Why did the professionals out earn the darts and the DJIA by such a wide margin?
The simple answer is they had a system.
These pros were able to outperform because they had a successful belief system about how markets work, coupled with a trading system that took advantage of those beliefs.
Each one of them had a series of systematic rules and guidelines that they used to choose winning trading ideas.
It should – because it’s the exact same thing we have here at The 10-Minute Millionaire.
We, too, enjoy the benefits of an emotionless systematic approach. We do it by using the market participant’s emotions to our advantage.
The market will always be governed by emotions.
There’s no changing that.
But since we know that investors get emotional, we also know that they’ll occasionally drive stock prices to “extreme” levels – either extreme highs or extreme lows.
Once those extremes are reached, there will be an inevitable “snapback” with an immense profit potential.
We look for those extremes and trade those snapbacks.
By doing so, the miscues of the masses become our windfalls.
And these aren’t just once-in-a-while opportunities either.
You can find these extremes everywhere in the market – all the time.
They show up in broad indices…
They show up in stocks and bonds…
They even show up in entire market sectors…
And it’s our belief system that guides us to every extreme that we trade here.
That’s why, in our next column, I’m going to break down the tenants – the belief system – at the heart of The 10-Minute Millionaire.
So make sure to stay tuned.
D. R. Barton, Jr.