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Baked in the Cake

Stock pickers don't realize that virtually all of the information and forecasts about a stock, a sector, or an economy is quickly digested by the totality of market participants and swiftly embedded into the price. This market efficiency ensures that prices agreed upon between willing buyers and willing sellers are the best estimate of fair market values. This painting illustrates that available information and news is "baked in the cake," and no one has special knowledge that is not already included in the price, except for inside information (which is illegal).

Step 1: Active Investors

Active investors rely on speculation about short-term future market movements and ignore the lessons embedded in vast amounts of historical data. They commonly engage in picking stocks, times, managers, or investment styles.

Step 2: Nobel Laureates

Nobel Laureates provide us with research and hundreds of peer-reviewed published papers that collectively discredit the myth that active investors can consistently beat the market. Their research supports the argument that a globally diversified, low-cost strategy maximizes returns at given levels of risk.

Step 3: Stock Pickers

Step 4: Time Pickers

Time Pickers or market timers claim the ability to predict the future movement of the stock market, moving into the market before it goes up and getting out before it goes down. However, numerous studies from industry and academic experts demonstrate market timers have no such ability to beat the market, and they should be avoided just like the lion's cage at Barnum's circus.

Step 5: Manager Pickers

Like Stock and Time Picking, manager picking is a worthless endeavor; however there are still investors out there who believe they can select an all-star manager or financial guru who can beat the odds.

Step 6: Style Drifters

Style drift happens when an active manager drfits from a specific style, asset class or index that is described as the investment purpose of a portfolio or mutual fund.

Step 7: Silent Partners

"Silent Partners" refers to the parties who silently share in the realized and unrealized gains on an investment. Fees, expenses, taxes, and inflation are silent partners that can set an investor back before returns even begin.

Step 8: Riskese

High risk exposure is like a scream inducing roller coaster, with soaring highs and stomach churning lows. On the roller coaster, the great the ups and downs, the greater the reurns...measured in thrills.

Step 9: History

A good understanding of the long-term historical risk and return of various indexes will enable investors to know how to allocate indexes in accordance with their personal risk capacity.

Step 10: Risk Capacity

Envision the market as a wild bull, bucking up and down, rearing and spinning. Investors are like bull riders, trying to hang on as the bull kicks and twists, making for a tumultuous ride. Matching the right portfolio to an individual's ability to handle risk is akin to finding the right bull that each investor can ride through all the ups and downs of the market.

Step 11: Risk Exposure

The blend of investments that is appropriate for a particular investor is known as asset allocation, also called risk exposure, and is based on an investor's risk capacity. Asset allocation is the most important factor in optimizing a portfolio's expected return, thus it is essentially the most important decision an individual investor can make.

Step 12: Invest and Relax

Invest, relax and stay balanced. Although indexing can be done on one's own, there is a high value to working with a qualified registered investment advisor (RIA), who is registered with the SEC and can provide valuable ongoing advice and education.