In a recent interview of Bill Gross, the former Pimco bond fund manager, he happened to mention that one of his favorite, most entertaining and inspirational books was "Reminiscences of a Stock Operator," by Edwin Lefevre in 1923. Lefevre, a journalist and novelist, wrote the fictional account of a stock speculator named Larry Livingston, but the story was based on Lefevre's real interviews with famed speculator Jesse Livermore, who had won and lost millions over the years.
Like Gross, I found the book to be entertaining because it provided a glimpse into the world of what the stock market was like in the late 1800s and early 1900s. Believe it or not, there were so-called "bucket shops" where investors gathered to watch the ticker tape and invest their money in stocks, but their cash never went anywhere near Wall Street. The shop itself was the "market maker" of sorts that took the money from losers and paid it to the winners -- out of a "bucket," where the money was held. Since there were always more losers than winners, the shop got to keep the net proceeds. Keeping score was based on how the stocks were performing on Wall Street as reflected by the ticker tape readings.
By page 56 of the book, I had stumbled on advice from 100 years ago that today's investors would do well to heed. To succeed as a "trader" (like Livermore) or as an "investor" ("a different breed of cat," according to Livermore), you needed the qualities of patience, self-discipline and detachment.
The fictional Livermore says at one point, "Men who can both be right and sit tight are uncommon. I found it one of the hardest things to learn. But it is only after a stock operator has firmly grasped this that he can make big money. ... The market takes its time about doing as he figured it must do. Disregarding the big swing and trying to jump in an out was fatal to me. Nobody can catch all the fluctuations."
Today, according to widely publicized research by Dalbar in Boston, mutual fund investors, as a group, actually lose money compared to market averages. For the past 20 years, the average investor in stock funds earned an average of 5.19 percent, which was 4.66 percent lower than what a buy-and-hold investor in the S&P 500 index would have earned. I recall that similar research back in the late '90s showed investors earning of just 3 percent per year while the market was rising an average of 16 percent per year for almost 20 years. Investors chasing last year's best-performing fund are always buying high and selling low and they rarely achieve the results that their initial purchases would have earned if they had just held on to them. Not far removed from the bucket shops of yesteryear are today's mutual fund companies that collect an average of 1.5 percent per year of all the money sitting on their books regardless of whether the investors are winning or losing.
Livermore himself said his big breakthrough occurred when he realized that the "big swings" were what determined his results overall. This was perhaps one of the earliest acknowledgments that the overall market results determine 70 percent of any one stock's performance. Years later, Stanford professors were throwing darts at The Wall Street Journal to develop the so-called "Random Walk Theory" and won five Nobel Prizes in economics for ideas such as "efficient market theory," which applied some legitimacy to Livermore's observations more than 100 years earlier. Even in an era in which Livermore and his fellow "stock operators" could manipulate markets with impunity, he recognized that his ultimate success rested upon a healthy regard for the invisible hand of economic forces beyond his control.