I have never liked the expression ‘smart money’. It is demeaning to individual investors and used by some in the finance industry to imply they are smart and the rest of you are by implication ‘dumb’. A lot of supposedly smart professionals do some very dumb things, and a lot of commentators that use the expression (you don't know who you are) I know are dumb. And I also know a lot of non-professional investors (you guys) do some very clever things.
Some advantages for the insiders
There are only a few ‘smart money’ activities, inaccessible to the mortal investor. They include:
Access to IPOs, share issues, and placements. Allocations of larger amounts in of hot new issues is something only the big institutions receive, and they get it because the brokers controlling the issue want to suck up to them to win their secondary market trading business. Those accelerated rights issues are an utter rort. They hand value from existing shareholders to the chosen institutions that may not even hold the stock. So yes, the fund managers are advantaged in this respect over retail money.
Inside information. There is a broker’s saying that “If you are not on the inside, you’re on the outside” and a lot of private investors think that this is how everybody else makes their money. Some private investors (usually after they just made a loss) will also tell you that the stock market is one big Machiavellian plot of big money with inside information exploiting small money investors without.
But it’s not. Let me give you a story. I once stood in a lift with a very experienced professional trader who overheard a couple of brokers talking about an inside tip. He piped up in a gravelly voice of experience. “If I’d never been told any inside information, ever, I would be a million dollars better off.” I’m sure inside information is around and you may be considered ‘smart’ if you come across it and use it to make money and not get arrested. But it's not legal and it's not commonplace in or out of the industry. The main misconception of those outside the industry is thinking everybody else has it. Quite simply, they don’t. That’s not the game.
Writing options. Some wealthy investors do very little other than constantly write out-of-the-money call options against large existing holdings in the big stocks. They do not write naked calls; they own the stocks. But this will only ever achieve incremental gains, a few percent maybe, over and above the total return of that stock. They see it as a way to achieve a 'higher yield' rather than a way to make capital.
The truth is that what most people call smart money, is not really smart money, it's just ‘big money’. Big money is institutional money, fund manager money, money that attracts the attention of brokers that can deliver an advantage by prioritising the big money when it comes to shares issued at a discount, share allocations to IPOs and private placements without using a Product Disclosure Statement.
But before you have a whinge about those privileged institutions getting favours from their broker mates, let me tell you, there are a host of advantages for people like SMSF trustees running ‘small money’.
I have collected some of them. This should make you feel better about the big end of town.
The advantages of being a small investor
- Liquidity doesn’t matter. Moving prices when they buy or sell is a big issue for fund managers. When you buy and sell you don’t affect the share price in a counterproductive way. You get better and quicker execution.
- You don't have a mandate controlling what you do. You can do what you want.
- You can change what you do at any time without reason or explanation.
- You don’t have to stick strictly to an investment strategy (the written requirements for SMSFs are notoriously lax).
- You don’t have to stay invested when the market falls over, you can sell. Most fund managers can’t, their mandates limit the size of their cash holdings.
- You don’t have to boringly diversify and include stocks because they are a big part of a benchmark.
- You don’t have competitors boasting how well they have done.
- You can walk away without anyone knowing or minding. You can take the day off. You can take a month off. You can take a year off. You can stop managing funds forever without one email asking you why.
- If you buy an ETF or a LIC, it's not seen as a ‘failure’ (it is for a fund manager who is supposed to select stocks).
- Reputation doesn’t matter. You don’t lose your job if you underperform.
- You don’t get emails from your investors distracting you from the job in hand.
- If you get it wrong, you don’t lose investors.
- You don’t have compliance issues burning time and money. You don’t have to publish, let alone comply with, your FSG. You don’t have to pay for a compliance manager. You don’t have the threat of ASIC turning up at your door with a 'Please explain'. You don’t need an AFSL. You don’t have the cost of an AFSL. You don’t have the administration of an AFSL.
- You have almost no costs.
- You don’t have to justify your decisions to a committee.
- You can react to events almost instantly.
- You can use mechanisms like stop losses if you want.
- No one is comparing you to a compounding benchmark with no costs.
- With today’s technology you have almost identical tools available to a fund manager.
On the flip side
- You don’t have brokers buying you lunch.
- You aren’t given access to IPOs because you’re a small client they don't need to suck up to.
- You don’t get to read the research before everybody else does.
- You don’t have $200,000 analysts finding stocks for you before they tell anyone else.
- If you lose millions in a correction, it's not okay just because everybody else’s performance was terrible as well.
The bottom line is that being a ‘small money’ investor is a big advantage because you have the freedom a professional investor would love.
Marcus Padley is the author of the daily stock market newsletter Marcus Today. For a trial, see marcustoday.com.au. This article is general information and does not consider the circumstances of any investor.