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Doing Battle with Today's Markets By Stephen J. Butler

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A book, "The Battle for Investment Survival" has withstood the test of time. Written by Gerald Loeb originally in 1935, it had been reprinted twenty-five times by the time a dusty 1965 edition fell into my hands this summer. Gerald was born in San Francisco in 1899 and entered the brokerage business in 1921. The book is full of "in-your-face" investment advice that contradicts much of what we recognize as conventional wisdom of the past twenty years. Of course, when choosing a surgeon, a defense attorney, or a stock broker, most people are attracted to those who exude self-confidence ---even when that quality is misplaced. Gerald Loeb confidently talks about how he avoided the crash of '29, so his investment approach should be of interest today.

Comparatively speaking, there are three fundamental investment philosophies. First, there are index funds that invest in broad cross sections of the market based upon the "efficient markets theory." This theory holds that individual performance of any one stock is a function of the entire market's performance. There is little value added by specific stock selection. Next, we have Warren Buffet and other value investors who are buy-and-hold theorists harboring the belief that any stock in a good company should be held for at least ten years or more. Finally, there are those like our author, Gerald Loeb, who believe in having all the eggs in one basket and then watching that basket very carefully. He maintains that only big money can be made with a concentration of few investments that are watched and traded successfully. The process involves cutting losses quickly and letting winnings run.

Most of us with money in mutual funds will be tempted sooner or later to invest in some individual stocks. According to some, when we feel this urge we should go lie on a beach until the feeling goes away. Alternatively, we can let some of Gerald Loeb's advice influence our decisions and in the markets ahead, his approach may offer one of the best alternatives.

He starts by encouraging people to invest in stocks that are going up in value. He is essentially a so-called "momentum investor." Then, his key to success lies in knowing when exactly to sell. "As soon as a security is purchased, the buyer loses the power to avoid a decision." This is a nice way of saying we have a tiger by the tail. Cutting losses is the one rule of investing that is mechanical and easy. If an investment drops by 10%, you let it go. Unfortunately, we are human beings who hate to take losses. We also hate to repurchase something at a price higher than when we sold it. Human likes and dislikes get in the way of rational intelligent investing.

In a sense, Loeb also agrees with the basic premise of index funds when he cites the need to always be aware of overall market trends. He points out that sometimes, no matter how good an opportunity a stock may appear to be, the overall market trend will doom any chance of making money in the investment. "The most important single factor in shaping security markets is public psychology." The role of psychology in shaping prices is what makes investing such an inexact science. This is the quality of the investment challenge that defies even a computerized attempt to rationalize the process.

Fundamentally, the rule according to Loeb is to watch losses and cut them short while letting profits run until they start to diminish. This latter move is measured by a form of high school calculus when, you may recall, we had to determine the first derivative or the extent to which the direction of a line was changing. Today's successful options traders in that highly volatile market use computerized formulas to perform the calculations that Loeb would have instinctively "eyeballed" back in the thirties. Loeb says that this approach "overshadows almost any other investment principle I know."

Loeb goes on to trash other cherished investment theories. He points out that dollar-cost averaging is generally unprofitable. He bases this premise on the notion that staying with a declining stock and even adding more money to it is further unprofitable. In addition, we are kept from investing in a stock that is going up. He describes his preferred approach as "successful pyramiding" which means continuing to buy more of a stock that is rising.

Throughout the book, Loeb is talking about the need to control emotions and conquer the natural inclinations that get in the way of successful investing. He also points out that investing takes time and work. He points out that the average work week in the mid 1800's was 70 hours per week. With today's average of 40 - 50 hours at most jobs (including commuting,) this leaves plenty of time for all of us to become investment experts. For those with the inclination to learn more about the inner game of investing, a contemporary companion book would be "Winning the Mental Game on Wall Street" by John Magee in a new edition edited by Charles Bassetti.

For my part, the whole experience of investing in a few individual stocks and "watching that basket of eggs very carefully" reminds me of when my Labrador Retriever paid a lot of attention to our six chickens and systematically mouthed them to death. While Organic Gardening Magazine at the time suggested tying a dead chicken to the dog's neck, we decided to just give up on chickens. In the same vein, I'm inclined to stick with indexing and buy-and-hold investing, but a trip through Loeb's book at least tested my theories and convinced me that my personality is hardly suited for the role of active trader.