Finance is a Strange Industry

There's nothing else like it.

Aug 27, 2014 at 8:44AM

Finance is a strange industry. There's nothing else like it.

I can't think of another industry in which there is so much ignorance around costs. Nearly all financial fees are deducted from assets automatically, rather than clients receiving and paying an invoice. This makes them out of sight, out of mind. Ask someone how much their cell phone bill is, or how much a gallon of gas costs, and they can tell you down to the penny. But ask them how much they pay in advisory fees, and they may have no clue whatsoever.

The irony is that if you are moderately wealthy, advisory fees might be your single largest annual expense -- and you're probably oblivious to them. You diligently include an $8.99 Netflix subscription in your monthly household budget, but have no idea you're paying 50 times that much to your 401(k) adviser. No other industries work like this.

I can't think of another industry in which people capable of doing so much harm don't need credentials. Doctors must attend medical school. Lawyers must pass the bar. Hairstylists and manicurists need licenses. Becoming a London taxi driver requires passing a test that can take years of practice.

But managing money requires little more than the desire to manage money. If I want to be a firefighter, I need extensive training. If I want to manage the firefighters' retirement fund, I need a nice suit and a sales pitch.

Selling, rather than managing, financial products does require a license. But it is embarrassingly simple to obtain, and anyone willing to study for a few weeks can pass the test. "You should meet some of the cavemen I know who've managed to pass it," financial adviser Josh Brown once wrote. No other industry has the potential to do as much harm to society while demanding so little proven expertise. (Politics may be an exception.)

I can't think of another industry in which results matter so little. Investor Marc Faber was finally called out by a CNBC host last month for lacking credibility after years of failed predictions. Faber's response was incredible. "I started work in 1970," he said. "Over my career, somewhere, somehow I must've made some right calls. Otherwise I wouldn't be in business." What those calls were, he didn't say.

The truth is that finance is filled with people who remain in business despite awful track records. There were 894 mutual funds in 2012 that had been in business in 1998. Of those, only 275 beat their benchmarks. That means more than 600 funds have underperformed what could be achieved in a low-cost index fund, but still remained in business for a decade and a half. The worst mutual fund to own over the last 10 years -- one that has underperformed all of its peers and trailed its benchmark by 150% -- still manages more than $1 billion.

Few industries in which results are measured objectively could get away with this. Competition would clean out the bad. When you mix financial illiteracy with innumeracy and emotion, poor performance is easily ignored.

I can't think of another industry that is so poorly taught in school. Making students memorize the periodic table but teaching them almost nothing about basic finance is bad enough. But even at the college level, how finance and investing is taught is disconnected from how it actually works. Finance is taught overwhelmingly as a math-based field, in which students learn how to calculate beta by hand and dissect a balance sheet in their sleep. In the real world, finance is overwhelmingly a psychology-based field, where the best investors are those who control their emotions. This is rarely taught and never emphasized. And it's why some of the world's best investors have no formal finance training. Other fields, such as medicine and engineering, have done a much better job preparing students for the real world.

I can't think of an industry that is so important to everyone yet so few care about. I get why people don't like calculus, or chemistry, or geography. They can do fine in life without mastering those subjects. Finance is different. Everyone's well-being depends on understanding it, no matter how boring you think it is. Everyone has a moral obligation to themselves and their family to have a basic understanding of how saving, investing, debt, and interest work. When people say, "I don't like finance," they're really saying, "I don't like security, stability, comfort, or taking care of my family. And my kids probably don't need college." There are few other subjects -- health might be the exception -- in which people have an obligation to understand something, yet so many willingly choose not to.

There's really nothing else like it. Good luck to us all.

Check back every Tuesday and Friday for Morgan Housel's columns.


Contact Morgan Housel at The Motley Fool has a disclosure policy.

4 in 5 Americans Are Ignoring Buffett's Warning

Don't be one of them.

Jun 12, 2015 at 5:01PM

Admitting fear is difficult.

So you can imagine how shocked I was to find out Warren Buffett recently told a select number of investors about the cutting-edge technology that's keeping him awake at night.

This past May, The Motley Fool sent 8 of its best stock analysts to Omaha, Nebraska to attend the Berkshire Hathaway annual shareholder meeting. CEO Warren Buffett and Vice Chairman Charlie Munger fielded questions for nearly 6 hours.
The catch was: Attendees weren't allowed to record any of it. No audio. No video. 

Our team of analysts wrote down every single word Buffett and Munger uttered. Over 16,000 words. But only two words stood out to me as I read the detailed transcript of the event: "Real threat."

That's how Buffett responded when asked about this emerging market that is already expected to be worth more than $2 trillion in the U.S. alone. Google has already put some of its best engineers behind the technology powering this trend. 

The amazing thing is, while Buffett may be nervous, the rest of us can invest in this new industry BEFORE the old money realizes what hit them.

KPMG advises we're "on the cusp of revolutionary change" coming much "sooner than you think."

Even one legendary MIT professor had to recant his position that the technology was "beyond the capability of computer science." (He recently confessed to The Wall Street Journal that he's now a believer and amazed "how quickly this technology caught on.")

Yet according to one J.D. Power and Associates survey, only 1 in 5 Americans are even interested in this technology, much less ready to invest in it. Needless to say, you haven't missed your window of opportunity. 

Think about how many amazing technologies you've watched soar to new heights while you kick yourself thinking, "I knew about that technology before everyone was talking about it, but I just sat on my hands." 

Don't let that happen again. This time, it should be your family telling you, "I can't believe you knew about and invested in that technology so early on."

That's why I hope you take just a few minutes to access the exclusive research our team of analysts has put together on this industry and the one stock positioned to capitalize on this major shift.

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David Hanson owns shares of Berkshire Hathaway and American Express. The Motley Fool recommends and owns shares of Berkshire Hathaway, Google, and Coca-Cola.We Fools don't 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.

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