Democracy and Investing

Well, there’s no need to talk about “why” I chose to write on the topic of democracy – with primaries and elections right around the corner, the media is having a field day dishing dirt and gossip on all of the candidates.  But one thing we’re seeing the most of this year – or at least more than we’ve ever seen before – is how the web has become such an integral part of the electoral process.

We’ve all seen the headlines ...

Everything ranging from Rudy Giuliani’s daughter’s Facebook account to the hacking of McCain’s MySpace page – the media is sparing no one!

We’ve even seen the debates recorded and posted on YouTube where real voters had the chance to view, comment on, and even discuss the debate with other voters right from the comfort of their living rooms.  It’s pretty amazing stuff, and definitely adds to the whole concept of democracy on the web.

But what about democracy with respect to investing?

Is investing a democratic process?  If not, could it become one?

These are the questions that have been going through my head lately.

Most people think of investors as solitary souls who hoard their information and use it to get an edge over other investors.

But then again, isn’t the market simply a reflection of the collective “votes” of all the investors out there?  If a stock trades higher than another, doesn’t that just mean that the stock is the “winning” candidate?

Answer:  Yes and No.

Yes, because just as the famous value investor Ben Graham was fond of saying, “In the short term, the market is a voting machine.”  The more popular stocks will do better than the less popular ones.

But Mr. Graham was also quick to say that the market was a “weighing machine” in the longer term – meaning, the stronger companies will always outweigh the weaker ones.

And while I do agree that the market certainly reflects some sort of democratic process (depending on how deeply we want to define the term “democratic”), it is still the “representation” of many independent investment decisions.  Meaning, there are thousands of independent decisions being made by thousands of different people who have no idea what the other people are doing.

What if there were a way we could bring those independent people together to make a single collective decision before actually committing to a trade in the market?

What if, by leveraging web technologies, we could have the entire investing population make a collective “guess” as to where a stock’s price will be in one month, in six months or even a year?

Will this produce better results than a handful of large, “expert” institutions?

If you believe in the “Wisdom of Crowds”, as I do, then the answer is YES, the “crowd-based” decisions will outperform those of the experts (assuming the crowd isn’t influenced by the “experts”).

Just to relate a quick story from the book, The Wisdom of Crowds, here’s what happened when a group of “non-experts” went head to head with a smaller group of so-called experts.  This story was extrapolated from the accounts of Franics Galton, a 19th century economist and anthropologist:

At one of England’s many fairs, he noticed a wagering competition in which people had to guess on the weight of an ox.  In effect, it was like one of those “how many jelly beans in the jar” competitions.  Eight hundred people wrote their guesses on slips of paper; some were butchers and farmers, while others were casual guessers.

Averaging the estimates, Galton expected the result to be nowhere near the mark, because so few of the guessers were professionals in the meat business.  To his surprise, however, the crowd had come within one pound of the ox’s weight.  The group as a whole had guessed that the ox would weigh 1,197 pounds, and the ox’s actual weight was 1,198 pounds.

He also states that the average of these collective guesses was more accurate than the estimates of the few experts who were polled.

To bring this back to politics, one could argue that the best way to find out who will win the upcoming presidential election isn’t to ask people who they “want” to win, but who they “think” will win.

Now let’s bring this back to stocks.

Instead of asking people what they “hope” the price of a stock will do – we should start asking what they “think” it will do.  And not over the short term, but ask them about performance over the long term.

I can’t tell you how many times I tried to get people to buy stocks when I was an analyst/broker on Wall Street, and I’d hear, “Wayne, this looks like it’ll be a good long-term play, but I don’t know what it’s going to do tomorrow.”

This is a profound statement for a couple of reasons:

1. It shows how short-term oriented most people are – and that’s why we’re always able to find bargains in the market.
2. People are smarter than they think – if most folks thought independently instead of listening to the news every day, then they’d see the forest through the trees and pick up these long-term stocks when they were selling on the cheap.

So let’s do a little experiment today – let’s see how “smart” our crowd is at Tycoon. 

I’m going to pick three stocks (I’m not going to give my opinion on ANY of them). 

What I want you to do is tell me where these stocks will be in one month, in six months and then in a year.  We’ll revisit this topic at those points and see how well everybody did.

Who knows?  We might be the first web site that gives away amazing recommendations for free because of how smart the “Tycoon Crowd” is!

Here are the symbols:

Microsoft (Nasdaq: MSFT)
Apple (Nasdaq: AAPL)
Google (Nasdaq: GOOG)

Again, don’t listen to any of the so-called, “experts” here – go with what your gut is telling you.  I want to see what you think the prices of these stocks will be in one month, six months and in one year – so that’s a list of three prices for each of three stocks.  We’ll average them all together here and post our findings next week.

Have an awesome week!

Wayne Mulligan
Contributing Editor
The Tycoon Report