The parasitical sell-side has cost investors plenty of money

Business news networks and advisors exacerbate the damage

Warren Buffett once quipped: “the stock market is an efficient mechanism for transferring wealth to the patient from the impatient”.

But bankers, brokers, portfolio managers and advisors incessantly urge people to trade. On BNN for example, there is a segment called “Hot Stocks” and the advisors that get BNN interviews always “recommend” their “Top picks” and frequently advise investors to “take profits”.

In the last 60 odd years, the average holding period for stocks has dropped from eight years to six months (as of the year 2020).

Trading in the secondary market is a zero sum gain - every trade that wins comes from someone who loses and no new value is created. As a class, investors are worse off by the aggregate amount they have paid in commissions, transaction fees and fees paid to advisors and to custodians. The entire sell-side system is focused on urging investors to trade, with the inevitable result that investors as a class are better off and the sell-side firms and their employees are the only beneficiaries when both groups are taken as groups rather than individuals. Sure, some traders profit and other traders suffer losses, but the sell-side gets paid regardless.

The lower hold periods have manifested themselves in lower returns on investment for investors as a class and for large funds like the pension funds we rely on to pay for retirement.

Some hard data back this up.

In the 1950’s, the average DJIA return was 19.6% and inflation averaged 3.52% for real returns of 16% on average.

In the 1960’s, the DJIA average return was 7.5% and inflation averaged 1.14% so real returns for investors averaged 6.4%.

But in the decade from 2000 to 2010, the DJIA average return was 6.7% and inflation averaged 2.0 percent, with real returns dropping to 4.6%.

And in the period from 2010 to the end of 2023, the DJIA average return was 6.7% with inflation running 2.6% for an average real rate of return of 4.1%

While there will always be some variability in returns on investment, it is plain and obvious that shorter hold periods imply more trading. More trading compels more trading related costs. A reasonable conclusion is the sell-side enouragement to trade more often has cost investors (including pension funds) at least 100 to 200 basis points of return, with the costs that reduced those returns showing up as revenue for the sell-side institutions and individuals who make their living promoting investments.

The cost to society has been dramatic. People like me (I turn 80 next year) began investing at the end of the 1960’s (I opened my first brokerage account in 1971). I began contributing to pension funds in 1964. If you compare the value of $1,000 invested in a pension fund in 1964 with an average real rate of return of 6.4% it would be worth $22,237 today and if it earned an average nominal rate of return of 7.5% would be worth $37,190 today. If the same $1,000 were invested for a real return of 4.4% it would be worth $8,610 today.

That is a real reduction in funds available for my pension of 61%. My Canada Pension Plan pension is $1,108 a month. Had CPP invested that money for a 200 basis point higher rate of return, my monthly pension would be $2,878 in real terms and $4,785 in current dollars.

In my opinion, society has been done a disservice by investment banks and sell-side institutions and our elected leaders seem absent without leave. Most people are inept at investing, have little understanding of economics or finance, and are not taught even the basics of money management in our high schools. As a result, they turn to advisors of necessity. But they are not clients of advisors, they are prey.

Money management should be taught in our schools - nothing sophisticated, just the basics of household budgeting, compound interest, the value of a regular savings plan and the cost of turning to advisors rather than making your own investment decisions.