Thursday, June 07, 2012

Exclusive Interview with Ken Fisher - Part 2

Stock Selection, Risk, and Being Cool

This exclusive interview is with Ken Fisher, the billionaire head of Fisher Investments, columnist at Forbes Magazine, and author of numerous books including his two latest, Markets Never Forget (But People Do): How Your Memory Is Costing You Money-and Why This Time Isn't Different and The Only Three Questions That Still Count: Investing By Knowing What Others Don't.

Stockerblog: In Chapter 9 of the Three Questions book, you said 'The stock selection has the least impact on how your portfolio performs.' Can you comment on that?

Fisher: Sure, the way most people think is, when they buy a stock and it goes up or it goes down or does whatever, that action of picking that stock associated with that subsequent movement. The fact is that the biggest single feature that determines whether a stock goes up or down is whether the stock market is going up or down, and the second biggest feature is all of the things that determine what type of stock it is, like an extremely low valuation chemical company versus a high valuation drug stock let's say. Then there are big cap and small cap, there are US and foreign, and once you can parse out what are the factors that make up a stock, stock selection is actually the features on top of that, which would be the differences between the two stocks which have the same categories.

So most folks are confusing what you can think of as the return of the market and the return of the categories with the return of the stocks. They don't really think through that once you get down to looking at a handful of big US drug companies, then at that point, you are largely down into the world of where you start to see differences because of stock selection as opposed to category selection. Most people, for good and for bad, focus on the stock market portion or the return of the stock market return of the alpha category return, and they confuse that with what they think is stock selection. It is really the other two.

The problem with category selection again, as I mentioned a moment ago, is more than just one thing. It's big cap, small cap, growth, value, industry, sector, country, and all of those things contributing together before you ever get down to the point of comparing apples to apples, and seeing if this one, category-wise identical to the other one is actually doing better or worse, which is what stock selection is about.

Stockerblog: When you talked about growth and value stocks, which I believe was in Chapter 2 of Only Three Questions, and how most definitions are incorrect especially in regards to risk, can you define risk, and does risk really matter in terms of whether a stock is worth buying or not?

Fisher: Risk is a very tricky thing to define, because risk is so many different things at once. In the Three Questions book, I talk about it. We have in our brain all kinds of things that we want at a point in time, forgetting about anything else. We've just got things we want. We don't think about that a lot of the time. What we think about are the things we want that we're not getting.

The things that we want that we're not getting, we almost immediately start taking for granted. The way our brain works, we just kind of push the "want" into the back of our mind. Risk is whatever it is that we want, whether it's in the front of our mind or not, that we're not getting now.

So for example, at one moment in time, you'll hear the investor say, "All I want is to not lose money." Until you have a strong enough market long enough that they start worrying about opportunity cost, which is a different form of risk. If you just took a basic micro and macro economic course, as you worked your way through micro, they would talk about opportunity cost risks.

But most people, when they invest, will vacillate between totally blocking out opportunity cost in their mind and, then on the other hand at that point in time, being fixated on trying to avoid downside.

A common thing you hear investors say is, "Well I want capital appreciation while preserving capital." That's a ridiculous assumption. Preserving capital is more or less equivalent to a cash equivalent. Capital appreciation assumes that you're going to have some risk, and the more appreciation you want, the more you have to take risk. Of course, you are then trying to minimize opportunity cost risk.

For example, one of the risks that motivates people to do things like the Facebook offering is, in their mind, this isn't just about money but that they won't be cool.

My buddy Meir Statman and I did a paper on this topic 17 years ago in the Financial Analysts Journal. The fact of the matter is, people have what could be thought of as a packaging risk in their mind where they want to look like they are pulling the right package off the supermarket shelf in case anybody is looking at them.

Wise guys, smart alecs, of which the investing world has an abundance, will pooh-pooh that. But the fact of the matter is, people, when it comes to investing, are very preoccupied with how they look to their spouse, friends, business associates, and what have you. Are they being cool or aren’t they being cool.

Cool is an expensive thing to do. But the avoiding of cool appears to people to be an actual investment risk.

To access a free list of stocks that Ken Fisher recommended in Forbes, go to

Stay tuned for Part 3 of the interview.

The books of Ken Fisher are available at

Neither Stockerblog nor the interviewer nor the interviewee are rendering tax, legal, or investment advice in this interview. All opinions are those of Ken Fisher, and do not represent the opinions of or the interviewer.

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