Should Your Portfolio Be More Exotic?

Getting rid of behavioral mistakes is a better bet than exotic investments such as options, Mauboussin says.

Mar 22, 2014 at 7:00AM

As Managing Director and Head of Global Financial Strategies at Credit Suisse, Michael Mauboussin advises clients on valuation and portfolio positioning, capital markets theory, and competitive strategy analysis. He has also authored three books -- Think Twice, The Success Equation, and More Than You Know -- and is an adjunct professor of finance at the Columbia Business School, and chairman of the Board of Trustees at the Santa Fe Institute.

No longer content with just win, place, or show, gamblers are placing more exotic bets than ever before. Should investors be looking at exotics as well? It's hard enough to do well just sticking to the fundamentals, Mauboussin says, so most investors are probably better off keeping it simple.

So what's the best way to keep it simple as an investor?
It's no secret that investors tend to be impatient with the market, but the best investment strategy is to buy shares in solid businesses and keep them for the long term. In the special free report "3 Stocks That Will Help You Retire Rich," The Motley Fool shares investment ideas and strategies that could help you build wealth for years to come. Click here to grab your free copy today.

A transcript follows the video.

Matt Koppenheffer: Now I've got to ask this, since you brought up horse racing. I've done a little bit of that. I lived in Las Vegas -- you have to!

One of the things that I've read is that, because of the way the betting happens on the horse tracks, going into the exotics, where there's more uncertainty, there's more potential for money to be made, versus just betting a straight win bet, or a show bet, or something like that.

Taking that over to investing, is there reason for investors to go beyond just buying a stock -- going into options, going into stuff that's more exotic -- to look for better opportunities?

Michael Mauboussin: Super interesting question. By the way, I was looking at this not too long ago and, in the 1970s, like 75% of all bets were win, place, show bets. They were just plain vanilla bets, and that's really changed quite radically in the last 20 or 30 years. Now, most bets are exotic bets.

But there's an interesting feature about exotic bets that's important to underscore. It's that, even when you make those successfully, you lose a high percentage of the time. But when you win, you win a lot. It's this very different payoff scheme, which is you lose, lose, lose, lose, and then you make a lot.

Psychologically, that's very difficult for people to deal with. I think for the average person, it's very difficult. I think the sharp handicappers can make a living betting the exotics, but it's very difficult for the average handicapper.

Moving over to the world of investments, look. My attitude is, for most investors, keeping it simple makes the most sense -- which is having a diversified portfolio that's relatively low cost, and rebalancing. Those are the things that actually probably make the most sense for most people.

Now, if you have time and attention, and some proclivity to do this, you might be able to use some sort of strategies that are options strategies and so forth, but for me, wandering too far away from that core ... I guess it depends what you want to do, but wandering too far away from that, the payoffs don't seem to me to be too exciting. I would probably ...

Koppenheffer: Stick to the ... it's hard enough, within just ...

Mauboussin: It's hard enough. Again, even following basic principles, it's hard enough.

One of the things I will say -- and I call it the most depressing statistic in investing -- is that you look at the market over, let's say, the last 20 years for the S&P, it's up about 9% or so. And the average mutual fund is up 7.5% or so; the difference being, primarily, fees. But the average investor has only earned about 6%.

It doesn't seem to make sense at first blush -- 6% when they're investing in mutual funds -- but the answer is, it's because of bad timing. They're putting money in at the top, and they're pulling money out at the bottom.

Say 6 over 9, so their earning ... call it 60-80% of the market returns. You compound that over a generation or two ...

Koppenheffer: It's huge.

Mauboussin: It becomes very substantial. To me, if you say, "Where are my opportunities?" rather than saying "I'm going to get fancy with exotics," it's saying, "I'm going to try to get rid of that behavioral mistake, and that 150 basis/2 percentage points of performance," and by staying the course get much closer to the market's rate of returns, and let that compound.

That's going to be a much more fruitful, and I think much more powerful way to get to your financial objectives.

Matt Koppenheffer has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

1 Key Step to Get Rich

Our mission at The Motley Fool is to help the world invest better. Whether that’s helping people overcome their fear of stocks all the way to offering clear and successful guidance on complicated-sounding options trades, we can help.

Feb 1, 2016 at 4:54PM

To be perfectly clear, this is not a get-rich action that my Foolish colleagues and I came up with. But we wouldn't argue with the approach.

A 2015 Business Insider article titled, "11 websites to bookmark if you want to get rich" rated The Motley Fool as the #1 place online to get smarter about investing.

"The Motley Fool aims to build a strong investment community, which it does by providing a variety of resources: the website, books, a newspaper column, a radio [show], and [newsletters]," wrote (the clearly insightful and talented) money reporter Kathleen Elkins. "This site has something for every type of investor, from basic lessons for beginners to investing commentary on mutual funds, stock sectors, and value for the more advanced."

Our mission at The Motley Fool is to help the world invest better, so it's nice to receive that kind of recognition. It lets us know we're doing our job.

Whether that's helping the entirely uninitiated overcome their fear of stocks all the way to offering clear and successful guidance on complicated-sounding options trades, we want to provide our readers with a boost to the next step on their journey to financial independence.

Articles and beyond

As Business Insider wrote, there are a number of resources available from the Fool for investors of all levels and styles.

In addition to the dozens of free articles we publish every day on our website, I want to highlight two must-see spots in your tour of fool.com.

For the beginning investor

Investing can seem like a Big Deal to those who have yet to buy their first stock. Many investment professionals try to infuse the conversation with jargon in order to deter individual investors from tackling it on their own (and to justify their often sky-high fees).

But the individual investor can beat the market. The real secret to investing is that it doesn't take tons of money, endless hours, or super-secret formulas that only experts possess.

That's why we created a best-selling guide that walks investors-to-be through everything they need to know to get started. And because we're so dedicated to our mission, we've made that available for free.

If you're just starting out (or want to help out someone who is), go to www.fool.com/beginners, drop in your email address, and you'll be able to instantly access the quick-read guide ... for free.

For the listener

Whether it's on the stationary exercise bike or during my daily commute, I spend a lot of time going nowhere. But I've found a way to make that time benefit me.

The Motley Fool offers five podcasts that I refer to as "binge-worthy financial information."

Motley Fool Money features a team of our analysts discussing the week's top business and investing stories, interviews, and an inside look at the stocks on our radar. It's also featured on several dozen radio stations across the country.

The hosts of Motley Fool Answers challenge the conventional wisdom on life's biggest financial issues to reveal what you really need to know to make smart money moves.

David Gardner, co-founder of The Motley Fool, is among the most respected and trusted sources on investing. And he's the host of Rule Breaker Investing, in which he shares his insights into today's most innovative and disruptive companies ... and how to profit from them.

Market Foolery is our daily look at stocks in the news, as well as the top business and investing stories.

And Industry Focus offers a deeper dive into a specific industry and the stories making headlines. Healthcare, technology, energy, consumer goods, and other industries take turns in the spotlight.

They're all informative, entertaining, and eminently listenable ... and I don't say that simply because the hosts all sit within a Nerf-gun shot of my desk. Rule Breaker Investing and Answers contain timeless advice, so you might want to go back to the beginning with those. The other three take their cues from the market, so you'll want to listen to the most recent first. All are available at www.fool.com/podcasts.

But wait, there's more

The book and the podcasts – both free ... both awesome – also come with an ongoing benefit. If you download the book, or if you enter your email address in the magical box at the podcasts page, you'll get ongoing market coverage sent straight to your inbox.

Investor Insights is valuable and enjoyable coverage of everything from macroeconomic events to investing strategies to our analyst's travels around the world to find the next big thing. Also free.

Get the book. Listen to a podcast. Sign up for Investor Insights. I'm not saying that any of those things will make you rich ... but Business Insider seems to think so.


Compare Brokers