Rule Breaker Portfolio

Rule Breaker Portfolio
Five Monkeys
More Psychology of Investing

By David Gardner

ALEXANDRIA, VA (Oct. 5, 1999) -- The Rule Breaker portfolio continued to put distance between itself and the market indices today, clicking up (clickety-clickety-click) 1.63% even as the cogwheels of the overall market cranked down. Nothing like mechanical metaphors, eh? Clickety-click. Good prose should feel like a scrape of metal.

It'd just be nice to be capable of good prose....

Failing that, today's column is going to be given over to the prose of others. Following our packaging of my Psychology of Investing articles into a single feature, I have received (as occurred with their original publishing) a heap of e-mails that were for the most part very affirming and very, very fun to read. I want to quote from two of them tonight, because (a) there's so much to learn here, or to be reminded of, and (b) it's good fun for us to mingle the words of Fools at large with our own sometimes insular viewpoint.

First up is a Fool providing us a short story that many of us can relate to, relating to my statements about daytrading:

"I had been preparing myself for two years to take over my own investments. I 'graduated' myself once I could outperform my investment counselors. My thinking was that I could achieve higher percentage returns by actively managing my funds (read daytrading) and in fact, I did. 74% -- not bad, considering I took over 10 days before last [fall's] crash. However, I went back and ran the numbers on that same portfolio with a simple buy-and-hold position... my results?

"Over 300%. Factor in the anguish, stress, and lost time... perspective, perspective, perspective. Thanks for the article!"

Even if you do not daytrade, I encourage you to share stories like this one with others who do, because you might just help someone out of the underperformance AND waste of time that so many daytraders fall into.

And second came this story from a fellow named Dan Farr. Dan describes himself as "a worker bee existing deep inside the belly of a telecommunications titan." Now that he has extricated himself from debt and is ready to invest Foolishly, he writes, "This huge accomplishment for me has helped form my latest political opinion... namely, that if our nation were to pay the national debt rather than make promises of gifts, the national spirit should rise in a similar manner. What do you think about that?"

I think that's pretty Foolish.

Dan recently had forwarded to him one of those extremely amusing (and enlightening) Psych 101 experiment stories that makes its own important point. As this was forwarded to him, neither he nor I could verify the exact study, but even if it never occurred (and I like to think it did), there is spiritual truth here, dear Fools -- and I regard spiritual truth as a deeper thing, in its own way, than scientific truth. Let's entitle this, "What Fools Can Learn From Apes." The story goes:

"Start with a cage containing five monkeys. In the cage, hang a banana on a string and put a set of stairs under it. Before long, a monkey will go to the stairs and start to climb towards the banana. As soon as he touches the stairs, spray all of the monkeys with cold water.

"After a while, another monkey makes an attempt with the same result -- all the monkeys are sprayed with cold water.

"Pretty soon, when another monkey tries to climb the stairs, the other monkeys will try to prevent it.

"Now, turn off the cold water. Remove one monkey from the cage and replace it with a new one. The new monkey sees the banana and wants to climb the stairs. To his horror, all of the other monkeys attack him. After another attempt and attack, he knows that if he tries to climb the stairs, he will be assaulted.

"Next, remove another of the original five monkeys and replace it with a new one. The newcomer goes to the stairs and is attacked. The previous newcomer takes part in the punishment with enthusiasm. Again, replace a third original monkey with a new one. The new one makes it to the stairs and is attacked as well. Two of the four monkeys that beat him have no idea why they were not permitted to climb the stairs, or why they are participating in the beating of the newest monkey.

"After replacing the fourth and fifth original monkeys, all the monkeys which have been sprayed with cold water have been replaced. Nevertheless, no monkey ever again approaches the stairs.

"Why not?

"Because that's the way it's always been around here."

(The punchline of this story, for any Dilbert fanatics out there, is "And that's the way company policy begins....")

Like many lessons we can learn from psychology, this one has something to tell us about our portfolios. Namely, why are you invested in what you are invested in? Is there anything of the "monkey see, monkey do" -- without monkey really understanding why -- in your portfolio?

The question is rhetorical. If you follow The Motley Fool approach, the answer is more or less a resounding NO. We teach that you should know where your money is, and why it is there, at all times. You should be invested in companies whose products and services you use, whose business you enjoy following and can understand.

I was on Nightline last night (here's a transcript) with a fellow guest who was generally quite Foolish in her thinking. But on one point I think she can do better. Her opinion is emphatic: Make sure you know exactly what your money is invested in. (Great point.) But the followup point is that her #1 place for most people to invest is managed mutual funds. She even pointed to so-called "socially responsible" mutual funds, about which I wrote a clearly worded critical passage in You Have More Than You Think.

Think about it. Do you know where your money is, in a managed mutual fund? Nope. It's being invested in stuff you don't know by someone you'll never meet. Your Orion Socially Responsible Growth II fund reports its holdings at the end of every quarter (as Jeff Fischer pointed out last night), and even then it often window dresses to make it look as if it was holding certain stocks all quarter, when in fact it may just be holding them for a day.

When you own a managed mutual fund, you really can't know -- can have no specific idea -- of how your money is invested. And this is even truer for people who truly care about being socially responsible. Are you being responsible by allowing some stranger you'll never meet to make your moral or ethical screen for you? As you can see, managed mutual funds don't really fit into The Motley Fool view of things.

Index funds, yes. I know what I am indexing when I buy an index fund. For an S&P 500 fund, I own the 500 biggest companies, and I can see the list of what I own.

There is no list in the managed fund industry. Given that 90% of this industry underperforms the index fund, you'll have no difficulty seeing why we believe in only one mutual fund: the index fund.

Oooo-ooo-ooooo, aaa-aaa-aaa, eeee-eeee-eeeeee... are there any monkeys in your portfolio?

-- David Gardner, October 5, 1999

Related Link:
Special Feature: The Psychology of Investing

As always, share any thoughts about tonight's recap in our Rule Breaker Strategies board. And if you are looking into, or for, any new Rule Breaker prospects, the conversation always continues on our Rule Breaker Companies message board.






Rule Breaker Portfolio

10/5/99 Closing Numbers
Ticker Company Dly Pr Chg Price
AMGNAMGEN INC-1 1/16$85.00
AMZNAMAZON.COM3/8$78.44
AOLAMERICA ONLINE3/8$113.50
ATHMAT HOME CORP CL A-1 9/16$42.06
CATCATERPILLAR INC-1/2$54.56
CHVCHEVRON CORP-1 7/16$84.56
DDDU PONT (EI) DE NEMOURS-7/8$63.81
EBAYEBAY INC15/16$141.19
GTGOODYEAR TIRE & RUBBER CO-1/16$50.31
IOMIOMEGA CORPUnch.$3.81
SBUXSTARBUCKS CORP-11/16$22.56
TDFX3DFX INTERACTIVE-1/32$8.22

  Day Week Month Year
To Date
Since
8/5/94
Annualized
Rule Breaker 1.63% 2.01% 3.05% 34.61% 1,253.65% 65.54%
S&P 500 -.25% 1.45% 1.45% 5.87% 183.89% 22.37%
S&P 500(DA) -.25% 1.45% 1.45% 6.45% 198.15% 23.53%
NASDAQ .13% 2.30% 1.95% 27.68% 288.75% 30.04%

Trade Date # Shares Ticker Cost/Share Price LT % Val Chg
8/5/942200AOL0.917$113.5012,275.97%
9/9/972640AMZN3.188$78.442,360.77%
5/17/951960IOM1.280$3.81197.75%
12/16/98580AMGN42.889$85.0098.19%
12/4/98900ATHM28.040$42.0650.01%
2/26/99300EBAY100.527$141.1940.45%
2/23/99300CAT46.964$54.5616.18%
2/20/98260DD58.844$63.818.44%
2/23/99180CHV79.169$84.566.81%
2/23/99290GT48.715$50.313.28%
7/2/98470SBUX27.955$22.56-19.29%
1/8/98425TDFX25.667$8.22-67.98%

Trade Date # Shares Ticker Cost Value LT $ Val Ch
8/5/942200AOL$2,017.62$249,700.00$247,682.40
9/9/972640AMZN$8,415.03$207,075.00$198,660.00
12/16/98580AMGN$24,875.50$49,300.00$24,424.50
12/4/98900ATHM$25,236.13$37,856.25$12,620.13
2/26/99300EBAY$30,158.00$42,356.25$12,198.25
5/17/951960IOM$2,509.63$7,472.50$4,962.87
2/23/99300CAT$14,089.25$16,368.75$2,279.50
2/20/98260DD$15,299.44$16,591.25$1,291.81
2/23/99180CHV$14,250.50$15,221.25$970.75
2/23/99290GT$14,127.38$14,590.63$463.25
7/2/98470SBUX$13,138.63$10,604.38($2,534.25)
1/8/98425TDFX$10,908.63$3,492.97($7,415.66)
  Cash: $5,954.23  
  Total: $676,583.50  



Note
The Fool Portfolio was launched on August 5, 1994, with $50,000. It was renamed the Rule Breaker Portfolio in October 1998. The investing strategy began with the first investments of the Fool Port and has evolved with time and experience. In July 2001, the portfolio began adding $12,500 each quarter (We missed Jan. 2002, so we added $25,000 in April 2002). We skip a quarter if we have enough uninvested cash or cash available in stocks we would prefer to sell to make new investments. All transactions are shared and explained publicly before being made, and returns are compared in each week's column to the S&P 500 (including dividends where noted) and the Nasdaq composite. For a history of all transactions, please click here.