CFA Institute

"The Loser's Game" Is a WinnerAuthor(s): Logan Morrill and Roger P. StokeySource: Financial Analysts Journal, Vol. 31, No. 5 (Sep. - Oct., 1975), pp. 10-11Published by: CFA InstituteStable URL: http://www.jstor.org/stable/4477855 .

Accessed: 17/06/2014 03:21

Your use of the JSTOR archive indicates your acceptance of the Terms & Conditions of Use, available at .http://www.jstor.org/page/info/about/policies/terms.jsp

.JSTOR is a not-for-profit service that helps scholars, researchers, and students discover, use, and build upon a wide range ofcontent in a trusted digital archive. We use information technology and tools to increase productivity and facilitate new formsof scholarship. For more information about JSTOR, please contact support@jstor.org.

.

CFA Institute is collaborating with JSTOR to digitize, preserve and extend access to Financial AnalystsJournal.

http://www.jstor.org

This content downloaded from 91.229.248.152 on Tue, 17 Jun 2014 03:21:28 AMAll use subject to JSTOR Terms and Conditions

t tIe Editor

"The Loser's Game" Is a Winner

"The Loser's Game" by Charles D. Ellis (July/August 1975) is superb! As one of the growth company in- vestment originators from the 'thir- ties, and a long-time collaborator of Rowe Price and the late Tom Brit- tingham, Jr., I suppose we have all been dismayed at the self-defeating phenomena precipitated by the "per- formance" institutions in recent years. This article is a substantial contribution toward restoring some sanity to our endeavors.

It's not a denigration of the sub- stance of the article to appreciate also its literary form. The formula on page 24 is worthy of Lewis Car- roll as mathematician and satirist.

-Logan Morrill Financial Counsel

Cincinnati, Ohio * * * * *

"All the children in this town are above the average for the town." This is a good line to throw out after listening to parents discuss their children's school problems. The ab- surdity is so obvious that it is usually good for a laugh. Similarly, poker players know that everyone can't win. In the stock market, however, which is now dominated by profes- sionals, people seem to believe most professionals can and should outper- form the averages. The professionals help perpetuate this myth. Hence the need for articles such as "The Loser's Game" in the July/August 1975 issue.

In horseracing, success by a handicapper is self-defeating. As he attracts a following, the odds on his selections go down. Similarly, suc- cess in the stock market by a profes- sional breeds problems which make further success more difficult. Thus, as the volume of funds under his management increases, the number

of stocks he can use decreases. Mr. Ellis also mentions such unavoidable handicaps as commissions and ex- penses of management.

This reasoning does not lead to the conclusion that there is no place in the market for the amateur or the professional managing a modest portfolio. Further consideration shows there are still profit opportu- nities for these persons.

The stock market is not a seamless whole. It is composed of various sub-markets, most of which overlap. The "nifty fifty" and "vestal vir- gins", for example, either consti- tute a market or are part of a group of stocks of companies large enough to interest large professionals. A part-time student of the market requires sublime self-confidence to trade those stocks.

Again, the airlines are a group of stocks studied by a lar.ge number of

professional analysts. The number of analysts for the dollar value of the securities is high. An investor who trades airline stocks should realize that he is pitting his judgment against analysts who may not be as smart as he but who spend far more time on airlines than he does.

Thus there is an element of truth in the random walk theory: If an in- vestor is considering matching his analytical abilities with those of full- time professionals, he might be bet- ter off making his selections by throwing darts. If no amateurs invest in an area of the market, the situa- tion will be analogous to a poker game in which all the players are sharks.

The winner's game for the ama- teur investor is to avoid playing in the same league as professionals. He should confine his search to indus- tries and issues which he can rea-

Author Corrects Table in "The Loser's Game" Becker Securities' data on the rates of return earned by institutionally man- aged pension funds were not correctly presented in "The Loser's Game". Given the care with which that firm consistently reports data, the error is particularly unfortunate, and I regret any resulting confusion.

The data given were for the equity portion of the portfolios, not for the total fund as some readers have inferred. Here are the figures for the total funds together with the equity only data and the S&P 500 as given in the ar- ticle:

Becker Becker Median Median

S&P 500 Equities Total

Last Three Market Cycles 5.3% 4.1% 3.8% (6/30/62 to 12/31/74)

Last Two Market Cycles 2.1% 0.4% 1.6% (9/30/66 to 12/3 1/74)

Last Single Market Cycle 2.2% (0.3%) 1.8% (6/30/70 to 12/31/74)

In the box within the article, the performance of equity portions of the third quartile fund and the low fund in the Becker Securities sample should, of course, appear in parentheses since they had negative returns over the past ten years.

10 Q FINANCIAL ANALYSTS JOURNAL / SEPTEMBER-OCTOBER 1975

This content downloaded from 91.229.248.152 on Tue, 17 Jun 2014 03:21:28 AMAll use subject to JSTOR Terms and Conditions

sonably expect have not been thoroughly analyzed by persons working full time in the field. In this way he may do as well as the profes- sional who is forced to play in another league.

-Roger P. Stokey Goodwin, Proctor & Hoar

Boston, Massach usetts

Another Concept Leads to Opposite Conclusion

In his informative article, "The Trueblood Report: An Analyst's View" (January/February 1975), C. Reed Parker states that over the past 30 years, the 30 companies that comprise the Dow-Jones Industrial Average have neither run out of cash and gone bankrupt nor consistently accumulated cash and marketable securities on any noticeable scale, while the dividend pay-out ratio has remained "constant" between 41 and 70 per cent. From these facts he draws the conclusion that "account- ing earnings as calculated by unad- justed historical cost methods are in- deed a good proxy for dividends."

The opposite conclusion also can

be drawn from these facts if one ac- cepts as one's concept of income the amount a company should be able to distribute as dividends without any significant impact on its ability to continue in business at approximate- ly the same level of operations. Un- der this concept, a lower-than-100 per cent pay-out ratio over a number of years should result in the expan- sion or accumulation of excess cash and marketable securities. If such expansion or accumulation does not take place, a logical conclusion is that the amount of dividends paid approximates the income of the en- tity more closely than reported earn- ings. Thus, the facts cited by Parker suggest that the conceptually correct income of the 30 Dow-Jones Indus- trial Companies is only 41 to 70 per cent of their reported earnings.

It is difficult to believe that finan- cial analysts can support accounting methods that result in reported earn- ings being as much as two and a half times the correct amount.

-Surendra P. Agrawal Assistant Professor of Accounting

Florida International University

Maxrket axnd our

capabilities run deep. Share it with us. Since 1877, Jesup & Lamont l has nurtured its expertise to provide high-caliber executions and transactions. For information on industrials, 9 i & P utilities and convertibles, " US4P LAMONT please call (212) 363-8792 Incorporated

25 Broadway, New York, N.Y. 10004

Members New York Stock E'xchanige, Inc., and(1 other )rinci)al Stock E xchanges

GELECTRI

I I U COMPAN~~~IES

115th Consecutive Cash Dividend The Board of Directors of General Public Utilities Corporation has declared the regular quarterly cash dividend on the Common Stock of the Corporation. The dividend is 420 per share, payable August 25, 1975 to holders of record July 25, 1975.

FRED D. HAFER Treasurer

July 10, 1975

UTTILITI ES COMPANY

COMMON STOCK DIVIDEND

The Board of Directors has declared a regular quarterly dividend of 31 cents per share on the common stock of the Company, payable October 1, 1975 to share- holders of record at the close of business September 2, 1975.

R. E. FONVILLE

Dallas, Texas Secretary

August 15, 1975

Principal Subsidiaries

Dallas Power & Light Company Texas Electric Service Company Texas Power & Light Company Texas Utilities Services Inc.

FINANCIAL ANALYSTS JOURNAL / SEPTEMBER-OCTOBER 1975 D 1 1

This content downloaded from 91.229.248.152 on Tue, 17 Jun 2014 03:21:28 AMAll use subject to JSTOR Terms and Conditions