Monday, November 9, 2009

Why I love finance

I have heard many times that the key to success is to find something you love and then to do that. Well, I know what I love: financial markets. It doesn’t matter to me what kind: equities, stocks, options, futures, swaps, or commodities; I can see the efficient beauty in all of them. I want to learn as much as I can about them so that I can use that knowledge to profit from that. I think that my discovery of markets is the best I’ve ever made, save one (hat tip goes to you Jenny). I get fired up about markets: I read about them constantly and, if I have a willing counterpart, I could talk about them all day long. Recently I’ve wanted to know where that passion has its genesis. I’ve put together a detailed, and perhaps incomplete, list of factors: family upbringing, aptitude for numbers, the challenge, the role they allow me to play (capitalist), and the prospect of the big payday.

My girlfriend and I had been dating for a few months before she felt comfortable doing a holiday tour to meet both of my families (divorce). The first comment she made after we finished at both houses was how large of a difference there is between my two families: at one table the stock market dominates the conversation and at the other, politics and books. I think the fusion of the two helps to explain why I like reading financial non-fiction so much.

When I think back on my childhood, I can distinctly recall a number of financial anecdotes. I remember having to watch the ticker cross the screen until the right three letters appeared before I could watch after-school cartoons. And I remember how I gave my first hot stock tip: I was listening to a Bloomberg pundit give his commentary on a great company, Cisco, with really bright prospects. I liked his argument. I was persuaded, so I recommended it to my mom. OK, this was around 1998 when the stock market was red hot and my mom ended up tripling her investment, on paper. Emphasis is on paper. I’m not Edwin Lefevre or Jim Cramer so I’m not going to try to claim that I kept a ledger of recorded fake trades with the corresponding imaginary profits tabulated. However, I will maintain that I watched and I listened, all the while accumulating interest and passing knowledge.

One of the reasons I loved the ticker so much is because I have a strong affinity for numbers. Numbers are systematic, they don’t waiver, they can’t change their mind, and they aren’t open to interpretation. Around middle school I would watch SportsCenter for hours. I would watch the exact same show back-to-back to memorize the sports stats and figures, because I wanted to have that verbal ammo ready to drop in conversations with older people. I felt like I was making valuable contributions, and the facts served as validation of my worth.

I was good with numbers so I was in my element in math classes. I excelled at math so I poured relatively more effort into these courses, negatively affecting my language arts skills, specifically writing. This caught up with me in college, where I was shocked to find that my economics 101 course required more writing than it did numbers. I did poorly, very poorly; recording my first and only ‘D’. I thought I was surely on my way to join thousands of other Americans whose economics career lasted only a semester, only besting those who couldn’t even survive that long. But, under the urging of my mom who told me I was now destined to get my PhD in economics, I toughed it and continued on to the next course, macroeconomics. I found the material in 102 much more engaging, because I could relate to the topics more easily. My macro professor prompted me on to additional courses because “econ is the shortest major, only twelve courses” he said. So I eventually found econometrics. And I am glad that I did: I thought it was wonderful, I felt like Columbus discovering America. I was in love with the elegance of using quantitative models to describe anything you could dream up. To put the icing on the cake, you could even quantify how well it described these relationships [R-squared].

As I finished college I weighed the options of more schooling versus starting my career. Three factors encourage me to go back to school: 1.) everyone in my family has a graduate degree, 2.) I thought the job market was weak (retrospectively it ended up being true but only the base of a mountain of unemployment), and 3.) as my academic advisor coaxed me, the opportunity cost was lower for more schooling-free tuition with a higher wage afterwards. While I was at Ohio, I took my first finance course. Wow! We learned about concepts revolving around stocks and bonds all class period. I was infatuated with the idea that all the data from a company’s financial statements could be used to derive its intrinsic value which is why I really connected with Benjamin Graham’s books.

But my life in grad school wasn’t all rainbows and lollipops though; I felt very detached from my professors. I hated the way my finance professor hung her hat on the efficient markets hypothesis and confidently (read complacently) preached it, as well as diversification through indexation. I felt that if the world actually worked like this and investing were purely as easy and passive as she described, what value added could any financial professional really have? And, by extension, what was I truly learning? I became disillusioned with some of my professors. So I went through the motions of learning their academic theories but what I craved was a practitioner’s education. So I became didactic, supplementing my coursework with investment books. I read great financial classics like Ben Graham’s The Intelligent Investor and Jesse Livermore’s How to Trade in Stocks; modern triumphs like the Essays of Warren Buffett and Peter Lynch’s Beating the Street; and even some grocery-store type books like Joel Greenblatt’s The Little Book that Beat the Market. I wanted to show these professors that you didn’t have to blindly lecture diversification through ETFs, so I opened my own trading account to pick stocks I am doing well, with realized gains over 100% and unrealized gains averaging 61%.

I think my friends would consider me a contrarian in many aspects, which is probably in synch with another reason I love the markets so much: because they frustrate the hell out of most people (also, from my readings, what makes a good trader). Tons of people see financial markets as risky as a big casino, where sometimes you win but most of the time you lose. They end up being more risk averse than I think they should, socking their entire nest egg away in savings accounts. I see the markets as a place where I can be a capitalist no matter the size of my stake, as well as the only place that offers real capital appreciation long-term. If I correctly surmise that a company is undervalued, has a considerable edge in a market, and growth opportunities, then I will win nine times out of ten. I don’t mind that to do this requires a hefty amount of work, including constant market attention. I like reading the Wall Street Journal daily and I don’t mind hitting F5 ten times a minute to check my brokerage account.

I love the competitive challenge that the market triggers in people. Returns are returns and they are measured in percentages. I like the fact that finance people are hyper competitive and are always comparing to each other’s percentage returns. I cling to the idea that I will probably never have as many assets under management as a Warren Buffett or a Bill Gross but at least on some level I can compare my ability as a market analyst against them. Everyone gets to play the part that they want in the markets; for me, that is being a capitalist, an allocator of scarce resources to businesses. I think it is one of the most important jobs in the world, because even on the microcosmic level that I am operating on now it has an impact on a company’s cost of capital which impacts their business investment decisions.

I can’t stay away from the markets: if I can’t get to a computer to get my fill, I text message Google one stock ticker at a time until I go through the whole litany of my portfolio. I’ve staked my academic career on finance and economics. I fill my leisure time with financial non-fiction. Finance is what interests me the most and I’m passionate about it. As I said before, passion is the cornerstone to success and since I’ve identified mine it becomes only a matter of finding the right, first step to begin my life-long career. I’m Dan Wright and I love the markets.