Investing Summer School Extra Credit

Go deeper. [View this email online]( [Planet Money]( Office Hours Are Open --------------------------------------------------------------- by Cardiff Garcia Extra Credit From Planet Money Summer School Season Two Throughout the past six weeks Planet Money has been holding our Summer School series on the basic principles of investing. For newsletter readers who haven’t heard the episodes, today’s edition is a handy cheat sheet to the series. And for listeners who have finished the podcasts and crave even more, we’ve got you covered too. Below we present an Extra Credit assignment for each episode — readings and lectures that will take you deeper into the investment concepts that everyone should know. Devin Mellor/NPR [EPISODE 1: THE STOCK MARKET]( Extra Credit: [The 2018 Ryerson Lecture]( by Richard Thaler What determines the price of a stock? In theory, the price of a company's stock should reflect the expected future performance of the company itself. Investors sometimes refer to this concept as the stock's "fundamental" value. But in reality, there are times when a company's stock price appears to swing wildly above or below its fundamental value. Behavioral economist Richard Thaler’s lecture offers a great example. The story begins on December 17, 2014, when President Barack Obama [announced]( a series of policy changes that would begin to thaw decades of icy relations between the American and Cuban governments. Some investors responded with sudden enthusiasm about the prospects of a newly invigorated Cuban economy — and of the companies traded on American stock exchanges that might benefit from it, like airlines and cruise companies. The Herzfeld Caribbean Basin Fund, also known as the CUBA fund, offered investors a simple way to invest across a range of such companies without having to buy them individually. The fund itself bought shares in some of these companies, and then its own shares could be bought or sold on the stock exchange, just like any other stock. Logically, the value of CUBA fund shares should have roughly matched the collective value of the stocks that it owned. But after President Obama made the announcement, the price of the fund's shares immediately rocketed to 70% higher than the price that would have reflected the share prices of the companies held by the fund. A rough and simplified way to think about this is that investors who bought into the fund right after Obama’s announcement were paying 70% more for its shares than if they had directly bought the exact same stocks that the fund owned. Were investors just momentarily confused? Not at all. The price of the CUBA fund remained above that of its underlying holdings for almost an entire year. The likely reason is that investors were engaged in a [Keynesian Beauty Contest — a concept we covered in Summer School Episode 1]( — where investors buy a stock on the expectation that other investors will also buy and own the stock, and not because of its fundamental value. --------------------------------------------------------------- [EPISODE 2: INDEX FUNDS & THE BET]( Extra Credit: [SPIVA U.S. Scorecard]( from S&P Dow Jones Indices The simple premise of Episode 2 is that you probably can't outperform the overall stock market by actively picking individual stocks. You’re better off investing in an index fund, which lets you easily own small amounts of many stocks instead of just a few, and is designed to simply equal the returns of a stock market index. And one way to confirm the axiom that you can’t beat the market is to look at the attempts of professional stock-pickers who are trained and paid to beat the market — even though they can't, either. The SPIVA scorecard tests this. And the results are unambiguous. Out of all the managers of mutual funds that actively pick the stocks of big American companies, only one out of four managed to outperform the S&P 500 Index in the past five years. And the longer the timeline, the worse the results for these paid stock-pickers. In the past decade, fewer than one out of five active managers beat the index, after fees. Go back twenty years, and only about one out of twenty did. More on why in [Episode 2](. --------------------------------------------------------------- [EPISODE 3: SMOOTH SPENDING AND THE 401(K)]( Extra Credit: [Retirement Plan Access and Participation Across Generations]( from Pew Charitable Trusts Young adults are less likely than older generations to have access to retirement plans. They are also less likely to actually invest in retirement plans even when they do have access, and this gap persists across all levels of income. These were among the findings of this Pew Charitable Trusts report published in 2017. [Participation in Employer-Sponsored Retirement Plans Rises With Age - More than two-thirds of millennials have no plan] This behavior is consistent with the Lifecycle Hypothesis, featured in [Episode 3](. People tend to save more in their middle-age years as their pay rises, and then spend down their savings in retirement. This approach allows people to “smooth” their spending throughout their lives. It’s an approach that’s also consistent with taking on debt when you’re young, provided that the money is used to make a smart investment — like a college degree or a credential from a trade school — that will pay off later. (Extremely important caveat: The wisdom of this idea assumes that the amount of debt is reasonable enough that you can pay it down once you start reaping the benefits of your initial investment.) --------------------------------------------------------------- [EPISODE 4: BONDS & BECKY WITH THE GOOD YIELD]( Extra Credit: [What Makes US Government Bonds Safe Assets?]( by Zhiguo He, Arvind Krishnamurthy, and Konstantin Milbradt In this episode, we explained that Treasuries — the debt issued by the U.S. government — were the safest kind of debt that you can buy. “Nobody thinks the U.S. government will decide not to pay back their debt,” economist Vicki Bogan told us — hence for any bond that is “more risky than a U.S. Treasury, the issuer is going to have to pay a higher interest rate”. Otherwise you would just buy the safer Treasury. And the economists He, Krishnamurthy, and Milbradt emphasize in their paper that Treasuries aren’t just the safe investment of choice for American investors, but for the entire world. They also conclude that “when investors believe an asset will be safe, their actions can make that asset safe.” In other words, the perception that Treasuries are safe can further enhance their actual safety. Because when the economy worsens, global investors become more likely to invest in Treasuries, not less. This helps the U.S. government to continue borrowing money cheaply, both to stimulate its own economy and to pay off its earlier obligations. Does this mean that owning Treasuries is free of all risks? No! Inflation risk and interest rate risk still apply, as we cover in Summer School [Episode 4](. --------------------------------------------------------------- [EPISODE 5: BUBBLES, BIKES, & BIASES]( Extra Credit: [The Delusions of Crowds]( by William Bernstein The causes of financial bubbles remain mysterious, contentious. But we do have some sense of the behavior they induce in the people who get caught up in them. In his new book, finance theorist William Bernstein analogizes the psychology of financial bubbles to that of mass religious manias. For a shorter version of Bernstein’s thinking on bubbles, listen to his [recent appearance on our daily podcast, The Indicator from Planet Money](. Here we’ll share his description of the four subplots that typically accompany a financial bubble: First and foremost, financial speculation begins to dominate all but the most mundane social interactions; whenever and wherever people meet, they talk not of the weather, family, or sports, but rather of stocks and real estate. Next, otherwise sensible professionals quit reliable, good-paying jobs to speculate in the aforementioned assets. Further, skepticism is often met with vehemence; while there are always some folks old enough, and with memories long enough, to have seen the play before and to know how it ends, their warnings are met with scorn and ridicule, which over the past several decades has been usually capped with these five words: “You just don’t get it.” Finally, normally sedate observers begin to make outlandish financial forecasts. Asset prices are predicted to not merely move 10, 20, or 30 percent up or down in a given year, but rather will double, triple, or add a zero. --------------------------------------------------------------- [EPISODE 6: CRYPTOCURRENCIES]( Extra Credit: [Distrust or speculation? The socioeconomic drivers of US cryptocurrency investments]( by Raphael Auer and David Tercero-Lucas Among the claims made by advocates of cryptocurrencies are that normal currencies like the U.S. dollar could someday collapse in value, and that cryptocurrencies offer a safer way to hold and transfer money than modern financial systems. Whatever the merits of such claims, they don’t appear to be the actual motivations of typical investors in crypto. In their recent study for The Bank for International Settlements, Auer and Tercero-Lucas find that crypto investors are pretty much like everyone else. To be more precise, “U.S. cryptocurrency investors show no differences in their level of security concerns with either cash or commercial banking services” when compared with the general population. From which they conclude that cryptocurrencies “are not sought as an alternative to fiat currencies or regulated finance, but instead are a niche digital speculation object”. And purely as a “speculation object”, thus far the bet has paid off spectacularly. Five years ago the [price of a single bitcoin]( was less than $600. Now it is worth almost $50,000. Those returns, though, have been accompanied by tremendous volatility. And the findings in this study suggest that many investors in cryptocurrencies still don’t have a story for just why their value can be expected to continue climbing. All of which places cryptocurrencies on the riskier end of the spectrum for a new investor, as we explain in [Episode 6](. --------------------------------------------------------------- FINAL EXAM Summer School Season 2 wraps up this week, and we’ll be hosting a graduation ceremony on the podcast. Plus, we’ve made a diploma for each and every one of you, with your name on it even. All you have to do is pass the final exam — [eight questions to test your newfound knowledge of investing principles?]( Thanks so much for joining us for another season of Summer School. Let us know what you think by replying here, or tagging us on social media — especially with a pic of you and your diploma! --------------------------------------------------------------- Not subscribed? [Subscribe to this newsletter.]( Want to spread the love? [Share the web-version of this newsletter on social media.]( Craving more content? [Listen to our podcasts.]( --------------------------------------------------------------- Newsletter continues after sponsor message --------------------------------------------------------------- On Our Podcasts --------------------------------------------------------------- The Lost Archives of Sadie Alexander - The work of our first Black economist was lost to history. Professor Nina Banks set out on a quest to find it. [Listen here]( Jeromonomics: Indicator of the Week - Federal Reserve Chair Jerome Powell has radically changed the Fed's approach to supporting the economy. For our Indicator Of The Week we explain "Jeromonomics". [Listen here]( Planet Money Summer School 5: Bubbles, Bikes, & Biases - Investing during a bubble can leave you bust. But how to tell the difference between a bubble before it bursts and an investing rocket ship taking off? We'll run through a historical example and look inside our own thinking to find the mental biases that can contribute or exacerbate bad bubble thinking. [Listen here]( Enough With Bachelor’s Degrees - There are millions of job openings, but there are also many jobs that shut out qualified candidates simply because they don't have a bachelor's degree. We explore this phenomenon. [Listen here]( --------------------------------------------------------------- Stream your local NPR station. Visit NPR.org to find your local station stream. --------------------------------------------------------------- What do you think of today's email? We'd love to hear your thoughts, questions and feedback: [planetmoney@npr.org](mailto:planetmoney@npr.org?subject=Newsletter%20Feedback) Enjoying this newsletter? Forward to a friend! They can [sign up here](. Looking for more great content? [Check out all of our newsletter offerings]( — including Daily News, Politics, Health and more! 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