Recognizing that some books advertise more than they educate
Being skeptical about authors' claimed returns
Presenting my favorite investing books
Over the years, I've read hundreds of investing and financial books. I hope you haven't subjected yourself to this task!
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Although most books have something to offer, too many investing books are burdened with biased, wrongheaded advice and misinformation. As a non-expert, you may have a hard time sifting through the heap for the tidbits of treasure. The bad stuff can pollute your otherwise intelligent thinking and cause you to make investing mistakes that millions before you have made.
I hope that I'm not the first person to tell you not to believe everything you read. Publishing is no different from any other business — companies are in it to make money. As with other industries, the shortsighted desire to reap quick profits causes some companies to publish content that seems attractive in the short term but is toxic to readers in the long term. In this chapter, I help you sift through the confusion to find books worth reading.
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The worst books tend to confuse more than they convey. Why would an author want to do that? Well, some authors have an incentive to make things complicated and mysterious. Their agenda may be to sell you a high-priced newsletter or persuade you to turn your money over to them to manage.
One book "author" said to me, "Royalties, schmoyalties . . . I write books to hook people into my monthly newsletter. I can make $185 per year off of a $195 newsletter sale. You can't do that with a book." You sure can't. However, this salesman isn't satisfied to just turn out books that are short on information and advice but long on pitches to keep up with the latest market developments through his newsletter. When you subscribe to his newsletter, you're told that the financial markets are so complicated and change so rapidly that the newsletter is really no substitute for using his money-management service!
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The worst books steer you toward purchasing a crummy investment product that the author has a vested interest in selling you. Unfortunately, most publishers don't do their homework to check out prospective authors. They don't care what the author is up to, or whether the author is really an expert on the topic, as long as she's willing and able to write and promote a salable book. Authors who run around the country conducting seminars and making publicity appearances are a plus to the publisher.
In his books and seminar promotional materials, Wade Cook claimed to be able to teach people how to earn monthly returns of 20 percent or more (that's right — monthly, not yearly) by using his stock market investing strategies.
Cook's self-published best-selling books were short on specifics and were largely infomercials for his high-priced seminars. Cook's get-rich-quick investment seminars — which cost a whopping $4,695 — had been so successful at attracting attendees that Cook's company, Profit Financial Corporation, went public and generated more than $100 million in revenues annually! Cook wasn't shy about promising people they could get rich quick without much effort. Here's a passage from his book Stock Market Miracles:
I want millions of dollars and I don't want to have to work a 9 to 5 job to get them. Boy, that's a conundrum. It's almost impossible to work a typical American job, with average income and accumulate millions. Yes, in 40 to 50 years maybe, but who wants to wait that long? That's the rub — accomplishing the task of having millions without having to work for millions.
You see my method is simple. I want to use a small amount of money — risk capital if you will — to generate cash flow which will exponentially generate more income.
Cook promised his followers several hundred percent annualized returns by teaching them how to successfully gamble (not invest) in the stock market. Cook's "techniques" included trading in and out of stocks and options on stocks after short holding periods of weeks, days, or even hours.
Cook's trading strategies were loosely based upon technical analysis — that is, examining a stock's price movements and volume history through charting. (See Chapter 6 for more details on the foolishness of technical analysis.) Cook's investment seminar, which was offered in cities throughout the country, was marketed to folks like this: "If you aren't getting 20 percent per month, or 300 percent annualized returns on your investments, you need to be there."
Steven Thomas, a truck driver, went to a seminar with his wife so both of them could follow and implement Cook's strategies. In addition to spending $4,695 on the seminar, they also spent another $2,000 on audiotapes and videotapes. Six months later, Steven spent $1,500 on a paging system from Cook's company. The results: Thomas eventually lost $36,000 on investments made following Cook's strategies, which he borrowed against his home's equity. "I saw this as an opportunity to quit my job and just invest in the stock market," says Thomas. "This has had a terrible impact on my family, and I'm super-depressed."
Of course, if Cook had indeed earned the 300 percent annual returns his seminars claimed to be able to teach the masses how to achieve, he would have, in about a decade, become the world's wealthiest individual if he had invested just $1 million of the income he supposedly earned in real estate. Look out, Bill Gates and Warren Buffett! Any investor starting with just $10,000 would vault to the top of the list of the world's wealthiest people in about 15 years if Cook's teachings really worked!
So how did Cook get his start in the investing world? Here's what his Web site said:
He was a taxicab driver in the '70s. Borrowing $500 from his father, Wade Cook started buying real estate. His innovative ideas and gutsy follow-through enabled him to turn that $500 into several million. But that's nothing compared with what he's doing on Wall Street. Starting with $1,300, using his "Rolling Rock" and "Range Rider" methods, he's showing students how to create millions.
Why is Wade so smart? He says he's "street smart." What he discovered driving a cab changed his life forever. While his fellow cabbies were out looking for the big runs, Wade was taking every little run he could find — $4 here, $5 here. You see it costs $2 just to get into a cab (something called a meter drop) even if you only go two blocks. At the end of a month, Wade made three times what every other taxicab driver made. Now, Wade applies his "meter drop" technique to his stock market investment business — making a ton of money on a lot of little deals.
Although Cook's investment return expectations were completely unrealistic, he got away with claiming hyped and undocumented returns for many years because he didn't manage money for others. Seminar promoters and newsletter writers face no SEC scrutiny of their inflated performance claims or what they do in their seminars as long as no securities laws are violated. The SEC refers to such organizations as nonregulated entities.
Of course, Cook wasn't the first person to profit in this fashion. Numerous other seminar promoters and authors (some are discussed later in this chapter) have made big bucks as well, including the Beardstown investment club, which couldn't document its supposedly market-beating returns of 23-plus percent per year (see the next section for details). In addition to puffed-up expected stock market returns, there's more to Cook's past than simply driving a taxi. According to Smart Money magazine, Cook's dubious business practices had him in trouble throughout the '80s. At the end of his real estate seminars, which touted that average people could become millionaires by buying property with little money down, Cook began peddling stock in his own business ventures.
By 1990, state securities regulators in six states — Missouri, Utah, Minnesota, Illinois, Oregon, and Arizona — issued Cook cease-and-desist orders for selling securities without a license, selling unregistered securities, and omitting material facts — like the fact that he had declared bankruptcy in 1987. In fact, Arizona charged that Cook had duped $390,841 out of 150 investors by selling unregistered securities, funneling $48,000 of that money into a Scottsdale home purchase and federal income tax payments. The state ordered him to pay back the money and slapped him with a $150,000 penalty.
Cook answered by filing bankruptcy (again). Cook then moved back to his home state of Washington, where he didn't lay low for long. His new company, Profit Financial Corporation, became wildly successful by selling his Wall Street Workshop seminars and publishing his two stock-picking books. The attorneys general of several states sought millions of dollars in consumer refunds and sued the company. The states alleged the company lied about its investment track record. (Now that's a big surprise — this company claimed you would make 300 percent per year in stocks!) Cook's company settled the blizzard of state and Federal Trade Commission (FTC) lawsuits against his firm by agreeing to accurately disclose its trading record in future promotions and to give refunds to customers who were misled by past inflated return claims.
Although Profit Financial Corporation was a public company, SEC documents indicated that it wasn't exactly shareholder friendly. Cook set up a rather clever business structure whereby the public company (of which he is the majority owner) was required to pay him for the right to print his words and teach his methods. This enabled Cook to funnel much of the revenue stream directly into his pockets before it ever got to the shareholders. According to SEC filings, Cook's total corporate compensation in one year exceeded $8 million! According to a report by Bloomberg News, Cook's firm lost a whopping 89 percent of its own money trading in 2000. As Deb Bortner, director of the Washington State Securities Division and president of the North American Securities Administrators Association, observed, "Either Wade is unable to follow his own system, which he claims is simple to follow, or the system doesn't work."
And if there weren't enough unsavory aspects to Cook's financial dealings, Cook was sentenced in 2007 to more than seven years in federal prison for tax evasion, filing false tax returns, and obstructing a tax investigation, and was ordered to pay nearly $4 million in additional taxes.
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The moral of the story: Be highly skeptical and suspicious of investing books that direct you to high-priced seminars and other expensive products and services from the author. The best investing books, which I recommend later in this chapter, seek to instruct and educate.
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Book authors avoid careful scrutiny of claims of especially high returns. But if a performance claim hasn't been independently audited, don't believe it.
Remember also that the stock market, over the long term, provides annualized returns of about 10 percent. View skeptically any prognosticator or author claiming substantially higher returns that sound too good to be true.
Some book publishers are happy to look the other way or even to solicit and encourage great boasts that they use in the packaging to sell books. Consider these two examples: The Beardstown Ladies' Common-Sense Investment Guide: How We Beat the Stock Market — and How You Can, Too and The Whiz Kid of Wall Street's Investment Guide by Matt Seto.
The Beardstown investment club claimed a whopping 23.4 percent annual return since the club's inception in 1983. In the book, the authors advocated forming an investment club, pooling your money, and using a simple stock selection method to beat the pants off the market and the suspendered managers of mutual funds. The bulk of this book walked readers through how this investment club evaluated and selected individual stocks.
Seto's book boasted, "Matt Seto manages a portfolio that consistently outperforms 99 percent of all mutual fund managers . . . and returns an annual average of 34 percent." In his book, this 17-year-old investing genius told readers to forget bonds, real estate, and mutual funds and grow rich by investing entirely in individual stocks.
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Each of these books made prominently displayed and marketed performance claims. The Beardstown club's returns and Seto's returns, versus the market averages, would've placed them shoulder to shoulder with the legendary Peter Lynch, of the now famous Fidelity Magellan fund, and Warren Buffett, an investor whom Peter Lynch described as "the Greatest Investor of them all." Problem is, neither book contained information as to how these investment gurus calculated their returns, nor were the authors able to substantiate their claimed returns when asked to.
When I first wrote about the Beardstown book for The San Francisco Examiner, I offered to work with an accounting firm to calculate the club's returns if the club supplied the necessary information. I asked the same of Seto when I read his book. Neither of these authors could supply the documentation to prove their claims, and they backpedaled when pressed.
Initially, the Beardstown club said it would send the information, but months passed, and it never arrived. The club's media spokesperson then told me that the club has "chosen not to make our return an issue. . . . we're not out to be bragging." This statement was surprising, given the claims prominently plastered all over the book.
A later piece in Chicago magazine proved that although the Beardstown investment club claimed 23 percent per year returns versus 14 percent for the market, the club actually tremendously underperformed the market and earned only 9 percent per year. The publisher of the Beardstown book, Buena Vista Publishing (which was doing business as Hyperion and Seth Godin Productions), was ultimately sued. The book publisher settled the lawsuit in 2002. Under the terms of the settlement, buyers of the Beardstown investment club's books, audiotapes, or videotapes received certificates that could be redeemed for other books published by Hyperion.
Do you think the Beardstown ladies would have gotten their book deal (and landed on best-seller lists) if the facts had been known? Seto, likewise, couldn't prove his claim of an astounding 34 percent return.
Exceptional investing books — ones that are readable, educational, and insightful — are rare. Some of the better investment books are technical in nature and are written by career investment folks, so don't be surprised if they require more than one read. Make the investment of time; it'll pay big dividends (and capital gains!). Following are my picks for books that are worth the trouble of tracking down and reading.
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Now in its ninth edition, A Random Walk Down Wall Street (Norton), by Burton Malkiel, is a classic that was first published in 1973. Malkiel is an entertaining and intelligent writer. Drawing from examples from this century and others, Malkiel teaches how speculative bubbles (frenzied buying) and fear and greed, as well as economic and corporate fundamentals, can move the financial markets.
One fundamental premise of his book is that the financial markets can't be predicted, especially in the short term. Common sense confirms this premise: If someone could figure out a system to forecast the markets and make a fortune, then that person wouldn't waste time writing a book, publishing a newsletter, and so on. Malkiel, in fact, is one of the pioneers and proponents of index mutual funds, which simply invest in a relatively fixed basket of securities in order to track the overall market performance rather than to attempt to beat it. (See Chapter 8 to find out about index funds and how to use them.)
Needless to say, many Wall Street types aren't enamored of this book. As Malkiel says, the very term random walk is considered an "obscenity." But Malkiel presents a mountain of compelling arguments and data to support his case that most Wall Street firms and their investment research aren't worthy of an investor's hard-earned money. He also convincingly rebukes the whole field of technical analysis, which purports to be able to predict security prices based on charting and following past price movements. (See Chapter 6 for more about technical analysis.)
Malkiel explains how to look at some common-sense indicators, such as whether the stock and bond markets are fairly valued and your own personal goals and desire to take risk, to develop a thoughtful and successful investment plan. Instead of trying to predict the future, Malkiel explains how the level of risk an investor accepts with investments will ultimately determine future returns.
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Finance professor Jeremy J. Siegel loves investing data, especially examining it over long time periods. In Stocks for the Long Run: The Definitive Guide to Financial Market Returns and Long-Term Investment Strategies, 4th Edition (McGraw-Hill), Siegel presents an analysis of U.S. stock and bond returns since 1802! The book is packed with charts and graphs, some of which you won't readily comprehend unless you're the analytic, graphical sort. Even so, Siegel provides comprehensive discussion of the worldwide financial markets as well as how the economic environment affects stocks. The book focuses on stock market investing, although it also discusses bonds if for no other reason than to compare their returns and risk to stocks.
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Some people may think that Built to Last: Successful Habits of Visionary Companies (HarperCollins) is just for the small number of people who want to build a large company. However, the book, written by management consultant James Collins and Stanford Business School Professor Jerry Porras, is an excellent book for all entrepreneurs and people who work in leadership positions in companies, as well as people interested in investing in individual stocks. Rarely does a great book make it to the business best-seller lists, but Built to Last did.
The book presents the findings from an extensive six years' worth of research into what's behind the success of companies such as 3M, Boeing, Ford, Hewlett-Packard, Motorola, Sony, and Wal-Mart, all of which have achieved great success in their respective industries over many years. The average company in the Collins and Porras study was founded in 1897. In all, the authors tracked 18 extraordinary companies (referred to as the gold-medal winners in their respective industries) and compared the traits of these companies with those of similarly long-lived but less successful peer companies (in the same industries).
Collins and Porras's findings not only yield insight into how to build or identify a great business in which to invest but also destroy some commonly held myths. For example, some people feel that a great idea is behind every great company. This concept is wrong, and in fact, according to the authors' research, companies founded on the basis of a great idea can lead to focusing on the idea rather than laying the groundwork for building a great company. Sony's founder, for example, wrote a nine-page philosophical prospectus setting the stage for this great company, yet he had few product ideas in his firm's early days. Early products, such as a rice cooker, failed miserably.
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Great, visionary companies are rigid and unyielding when it comes to respecting their core ideologies and principles. On the other hand, such companies tinker and experiment to stimulate positive change and innovation. And despite their often-stunning financial success, great companies usually have an aspiration higher than or equal to maximizing profits: fulfilling a purpose and being driven by values. This book is packed with insights, information, and examples, so don't expect to absorb all of its contents in one reading.
Collins subsequently wrote another outstanding book, Good to Great: Why Some Companies Make the Leap . . . And Others Don't (HarperCollins), which he calls the prequel to Built to Last. In Good to Great, Collins presents the engaging and insightful results of another long-term study of numerous companies that over time moved from being average companies to outstanding companies. As with Built to Last, this newer book can assist readers not only with managing their own small businesses but also with selecting companies to invest in.
Okay, I'm a tad biased about Mutual Funds For Dummies (Wiley), which I wrote! However, it's the perfect complement to this book because it details how to build and manage a stock and bond portfolio by using the best mutual funds. I discuss dozens of the best funds available today and provide sample portfolios for investors in differing situations.