Many investors unwittingly abide by Wall Street's rules of engagement, thinking that it's the only way to make money. But the Wall Street Wise actually guarantee Average Joe investors like you and me only one thing: that our interests matter less than their profits.
Wall Street is where the big dogs play -- Goldman Sachs, Merrill Lynch, JPMorgan Chase. But they play a game that's designed to give their banks all the money, leaving you holding an empty wallet.
The wingtip crowd has a long track record to support that claim. For instance:
They focus on the big money and do whatever they can to support those relationships. Their attention and research is geared toward deep-pocketed institutional clients, not average Americans and their retirement cash. When they gave Cisco Systems
(NASDAQ:CSCO)a "strong buy" rating right before the bursting of the tech bubble, the Street crowd was hoping to make the institutional folks some fast cash. But when the bubble burst, we were the ones left holding the bag.
They maximize their own returns at the expense of individual investors. Wall Street firms make enormous profits from their venture-capital departments. So when they invest in a small, high-growth company, they'll often delay the IPO to get in on the action before they actually open the company up to the public. They tried to do this with Google
(NASDAQ:GOOG), but the founders of the company withstood the pressure. Instead, Google management -- in what was described as a maverick and foolhardy move -- issued the IPO via a Dutch auction, which leveled the playing field for small investors.
They can make markets. There is a supposed wall between research and investment banking departments at the Wall Street firms, but if you look closely, you'll see some fine print. Even on analysts' research reports, you'll often find that a company "makes a market in this security." By recommending positions in stocks in which they make a market, the Wall Street firms make money -- and analysts get higher bonuses. Remember that next time you see recommendations for NutriSystem
(NASDAQ:NTRI)at a valuation that robs even the biggest investors. Yes, the company has dominated the weight-loss industry recently, but is it really going to grow at its current rates long enough to justify the expectations that are baked into its current price? Many of the Wall Street banks want you to think so, but they get money no matter what you do.
Unless you're among the minority of Americans with "high net worth," you're Wall Street's last priority.
Don't play by those rules
Understand that analyst recommendations are focused on the short term and geared toward big investors. Since analysts' performance is measured on a quarterly basis, they need to predict only three to nine months into the future.
If you look at the analyst estimates for an up-and-coming growth stock like IMAX
My investing timeline is longer than that, particularly when I consider the commissions associated with rapid trading.
It's difficult to buy in the face of a downgrade. We all fear losing money. But your portfolio will thank you if you can escape the short-term Wall Street cycle. One way to do this is to buy stocks that Wall Street doesn't even bother following.
Fool co-founder David Gardner did this when he recommended Marvel Entertainment
Guarantee yourself better returns
The only way to guarantee better returns is to invest your money with a person you trust completely. Many times, that person is yourself.
That's why we at The Motley Fool advocate that you take control of your own investing destiny. If you'd like you get started on this path, be our guest at the Motley Fool Stock Advisor newsletter free for 30 days. There you'll find ideas that directly contrast the Wall Street state of mind: a long-term investment horizon, full disclosure, and discussion boards that will give you the courage to be contrary. Those ideas are making subscribers of Stock Advisor a pretty hefty profit -- an average return of 58% compared with the market's measly 20%.
Wall Street wants to maximize its returns; you want to maximize your own. Click here and get started doing just that.
This article was originally published March 3, 2006. It has been updated.
Fool sector head Shruti Basavaraj guarantees that they don't have Cake Day, a monthly Motley Fool occurrence, on Wall Street. She owns shares of IMAX, but no other company mentioned in this article. IMAX and CNET Networks are Rule Breakers recommendations. Pfizer is an Inside Value recommendation. JPMorgan Chase is an Income Investor recommendation. Read about the Fool's disclosure policy here.