3655: Rogue Waves, Rogue Markets by Jesse Cramer with Best Interest on Stock Market Education

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[00:00:56] This is Optimal Finance Daily. Rogue Waves, Rogue Market by Jesse Cramer of bestinterest.blog and I'm Justin Malek. We're going to jump right into today's post as we optimize your life. Rogue Waves, Rogue Market by Jesse Cramer of bestinterest.blog.

[00:01:20] In 1834, John Scott Russell walked for miles along the Union Canal in Scotland following a soliton wave. The wave never changed shape or size. It just kept going. Waves left uninterrupted would travel forever. Scientists didn't know this at that time. Russell's walk was a turning point in physics.

[00:01:44] We'll get to investing in a minute, just stick with me. Let's now travel east from Scotland to look at waves in the North Sea. For centuries, sailors told stories of so-called rogue waves. At least to sailors who survived those waves. In an otherwise calm sea, a giant rogue wave would rise unexpectedly, and in some cases, cause massive damage to an unlucky ship. But over those same centuries,

[00:02:13] experts didn't believe the stories. Rogue waves were dragons of the sea. Scary, infrequent, but simply not real. But in 1984, oceanographic research shocked the seafaring world. A 36-foot-tall wave was detected in the North Sea on a day when every other wave was less than 10 feet. A true rogue. Then in 1995,

[00:02:41] an 84-foot wave was detected in a storm when every other wave maxed out at 35 feet. Another rogue. Where do these rogues come from? How can a huge wave seemingly come from nothing? One simple theory involves constructive interference. When two waves cross paths, their peaks and valleys combine. Constructive interference is likely a cause of rogue waves. Multiple small waves

[00:03:10] happen to cross paths at the same spot in the ocean, producing an uncharacteristically large wave. Many inputs, one signal. If a rogue wave is indeed caused by the constructive interference of many smaller waves, it's hard for us to tell. We can't see those small inputs. All we see is a giant wave. But rogue waves and constructive interference are a terrific metaphor for how markets, like the stock market,

[00:03:40] work. Because just like the waves themselves, we can't always decipher the various inputs behind the market's prices. Market forces can be thought of as distinct small inputs. We'll discuss those inputs in a second. Sometimes they combine to create rogue markets. The most basic input are economic fundamentals. These are matters of fact. Revenue, profits, tax rates, interest rates, and so on.

[00:04:10] Purely objective measures that describe the present day and near future state of companies and markets. Good fundamentals push markets higher. The wave grows. Next are rational expectations about the long-term future. There are a mix of objective facts and subjective opinions with investors making claims like, because of these hard facts, I think the market or this company is going to do

[00:04:39] my educated opinion over the next 10 years. Good expectations push markets higher. The wave grows. And then there are irrational inputs like, my Uncle Jim making sound effects on CNBC, Reddit message boards creating billion-dollar short squeezes, or a digital image of a rock selling for 1.3 million dollars. Irrationality can be exuberant or pessimistic.

[00:05:08] It pushes highs too high and lows too low. A smorgasbord of recency bias, wishful thinking, commitment and consistency, and other behavioral shortcomings combine into what Charlie Munger calls a Lollapalooza. I call it a rogue wave. The challenging part as investors is deconstructing that rogue wave into its composite parts. How much is fundamental? How much is rational?

[00:05:38] And how much is complete bullsh**? It's not easy to tell. We only get to view the wave as a whole. We see the market's prices, but not how they're arrived at. Informed analysts can and should do their best to determine fundamentals in the other composite parts of asset prices. Only then can they determine if the irrationalists are being too optimistic or too pessimistic. And that idea, what's the irrational opinion today,

[00:06:07] harkens back to Benjamin Graham's Mr. Market. What if you're not experienced enough to make these determinations? Simple. You shouldn't try. It's like sailing your sunfish out to the open ocean. Even normal waves will crush you, let alone the rogue ones. Instead, you've got to choose an investing strategy that ignores the waves altogether. Because waves in the market, unlike waves in the ocean, aren't going to literally break your boat in half.

[00:06:37] They'll cause discomfort, but they'll pass as long as you allow them to. I have terrific news for you. There are many ways for you amateur sailors to navigate the market's seas. It's all the stuff that we talk about here on The Best Interest. Invest for the long term. Ignore temporary waves. Keep fees low, diversify, and rebalance. If you're going to abandon ship, stop. Hire an experienced captain instead.

[00:07:07] And, learn as much about the sea as you possibly can. An investment in knowledge pays the best interest. You don't need to be a physicist or an oceanographer or a captain or an aerospace engineer. In retrospect, the last couple years might have been roguish, frothy with cheap money and exuberant expectations. If so, that wave is crashing around us right now. But that's where

[00:07:36] this metaphor stops. My ship is safe. Your ship, with your permission, is safe. Seasick? Possibly. I know it's not fun. But this too shall pass. You just listened to the post titled Rogue Waves, Rogue Market by Jesse Kramer of bestinterest.blog and I'll be right back with my commentary. You know, before I found Warby Parker,

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[00:09:06] when you purchase one pair at warbyparker.com slash OFD. I've tracked my income and expenses since 2010, back when that meant a spreadsheet I built myself and updated every day. I loved it, but I still missed things. Categories changed and I'd go months before noticing my spending had doubled. Monarch does in seconds what took me hours and it catches what I never would have. Last year,

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[00:10:05] to get your first year of Monarch core half off at just $50. That's 50% off your first year at Monarch.com with code OPTIMAL. Thank you to Jesse. The part that stuck was the idea that when we look at the market, all we ever see is the finished wave, the price, and never the little inputs underneath that combined to make it. Some of that is solid, factual stuff. And some of it

[00:10:35] is my Uncle Jim making sound effects on CNBC, as he put it. And I think that's kind of freeing, honestly, because his takeaway isn't to get better at pulling the wave apart, is to admit that most of us can't and to stop trying. I can relate to that. I've caught myself over the years wanting to feel like I understood why the market did something on a given day. And the truth is, nobody really does, at least not in the moment. So building something

[00:11:05] that just ignores the waves takes a lot of pressure off. Now, I'm not a financial advisor and I won't tell you what to do with your money, but I like that his suggestions were all the boring, sturdy stuff. Long-term, low fees, diversify, keep learning. And that line at the end, that your ship is safe with your permission, I thought that was a nice way to put it. A lot of the discomfort is something we allow or don't. So maybe,

[00:11:35] when the water gets choppy, make that choice today to just let the wave pass. Thank you to Jesse for this one and thank you for being here and making the choice to be here. It really means a lot. Have a great rest of your day and I'll catch you tomorrow where your optimal life awaits. Thank you.