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Bestselling author, Jack Schwager, challenges the assumptions at the core of investment theory and practice and exposes common investor mistakes, missteps, myths, and misreadsWhen it comes to investment models and theories of how markets work, convenience usually trumps reality. The simple fact is that many revered investment theories and market models are flatly wrong--that is, if we insist that they work in the real world. Unfounded assumptions, erroneous theories, unrealistic models, cognitive biases, emotional foibles, and unsubstantiated beliefs all combine to lead investors astray--professionals as well as novices. In this engaging new book, Jack Schwager, bestselling author of Market Wizards and The New Market Wizards, takes aim at the most perniciously pervasive academic precepts, money management canards, market myths and investor errors. Like so many ducks in a shooting gallery, Schwager picks them off, one at a time, revealing the truth about many of the fallacious assumptions, theories, and beliefs at the core of investment theory and practice.* A compilation of the most insidious, fundamental investment errors the author has observed over his long and distinguished career in the markets* Brings to light the fallacies underlying many widely held academic precepts, professional money management methodologies, and investment behaviors* A sobering dose of real-world insight for investment professionals and a highly readable source of information and guidance for general readers interested in investment, trading, and finance* Spans both traditional and alternative investment classes, covering both basic and advanced topics* As in his best-selling Market Wizard series, Schwager manages the trick of covering material that is pertinent to professionals, yet writing in a style that is clear and accessible to the layman

Market Sense and Nonsense: How the Markets Really Work (and How They Don't)

Foreword xvPrologue xviiPart One Markets, Return, and RiskChapter 1 Expert Advice 3Comedy Central versus CNBC 3The Elves Index 6Paid Advice 8Investment Insights 11Chapter 2 The Deficient Market Hypothesis 13The Efficient Market Hypothesis and Empirical Evidence 14The Price Is Not Always Right 15The Market Is Collapsing; Where Is the News? 24The Disconnect between Fundamental Developments and Price Moves 27Price Moves Determine Financial News 37Is It Luck or Skill? Exhibit A: The Renaissance Medallion Track Record 39The Flawed Premise of the Efficient Market Hypothesis: A Chess Analogy 40Some Players Are Not Even Trying to Win 42The Missing Ingredient 44Right for the Wrong Reason: Why Markets Are Difficult to Beat 47Diagnosing the Flaws of the Efficient Market Hypothesis 49Why the Efficient Market Hypothesis Is Destined for the Dustbin of Economic Theory 50Investment Insights 52Chapter 3 The Tyranny of Past Returns 55S&P Performance in Years Following High- and Low-Return Periods 57Implications of High- and Low-Return Periods on Longer-Term Investment Horizons 59Is There a Benefit in Selecting the Best Sector? 63Hedge Funds: Relative Performance of the Past Highest-Return Strategy 70Why Do Past High-Return Sectors and Strategy Styles Perform So Poorly? 77Wait a Minute. Do We Mean to Imply . . . ? 78Investment Insights 85Chapter 4 The Mismeasurement of Risk 87Worse Than Nothing 87Volatility as a Risk Measure 88The Source of the Problem 92Hidden Risk 95Evaluating Hidden Risk 100The Confusion between Volatility and Risk 103The Problem with Value at Risk (VaR) 105Asset Risk: Why Appearances May Be Deceiving, or Price Matters 107Investment Insights 109Chapter 5 Why Volatility Is Not Just about Risk, and the Case of Leveraged ETFs 111Leveraged ETFs: What You Get May Not Be What You Expect 112Investment Insights 121Chapter 6 Track Record Pitfalls 123Hidden Risk 123The Data Relevance Pitfall 124When Good Past Performance Is Bad 126The Apples-and-Oranges Pitfall 128Longer Track Records Could Be Less Relevant 129Investment Insights 132Chapter 7 Sense and Nonsense about Pro Forma Statistics 133Investment Insights 136Chapter 8 How to Evaluate Past Performance 137Why Return Alone Is Meaningless 137Risk-Adjusted Return Measures 142Visual Performance Evaluation 156Investment Insights 166Chapter 9 Correlation: Facts and Fallacies 169Correlation Defined 169Correlation Shows Linear Relationships 170The Coefficient of Determination (r2) 171Spurious (Nonsense) Correlations 171Misconceptions about Correlation 173Focusing on the Down Months 176Correlation versus Beta 179Investment Insights 182Part Two Hedge Funds as an InvestmentChapter 10 The Origin of Hedge Funds 185Chapter 11 Hedge Funds 101 195Differences between Hedge Funds and Mutual Funds 196Types of Hedge Funds 200Correlation with Equities 210Chapter 12 Hedge Fund Investing: Perception and Reality 211The Rationale for Hedge Fund Investment 213Advantages of Incorporating Hedge Funds in a Portfolio 214The Special Case of Managed Futures 215Single-Fund Risk 217Investment Insights 220Chapter 13 Fear of Hedge Funds: It's Only Human 223A Parable 223Fear of Hedge Funds 225Chapter 14 The Paradox of Hedge Fund of Funds Underperformance 231Investment Insights 236Chapter 15 The Leverage Fallacy 239The Folly of Arbitrary Investment Rules 241Leverage and Investor Preference 242When Leverage Is Dangerous 243Investment Insights 245Chapter 16 Managed Accounts: An Investor-Friendly Alternative to Funds 247The Essential Difference between Managed Accounts and Funds 248The Major Advantages of a Managed Account 249Individual Managed Accounts versus Indirect Managed Account Investment 250Why Would Managers Agree to Managed Accounts? 251Are There Strategies That Are Not Amenable to Managed Accounts? 253Evaluating Four Common Objections to Managed Accounts 253Investment Insights 259Postscript to Part Two: Are Hedge Fund Returns a Mirage? 261Part Three Portfolio MattersChapter 17 Diversification: Why 10 Is Not Enough 267The Benefits of Diversification 267Diversification: How Much Is Enough? 268Randomness Risk 269Idiosyncratic Risk 272A Qualification 273Investment Insights 274Chapter 18 Diversification: When More Is Less 277Investment Insights 281Chapter 19 Robin Hood Investing 283A New Test 286Why Rebalancing Works 290A Clarification 291Investment Insights 292Chapter 20 Is High Volatility Always Bad? 295Investment Insights 299Chapter 21 Portfolio Construction Principles 301The Problem with Portfolio Optimization 301Eight Principles of Portfolio Construction 305Correlation Matrix 309Going Beyond Correlation 310Investment Insights 314Epilogue 32 Investment Observations 315Appendix A Options--Understanding the Basics 319Appendix B Formulas for Risk-Adjusted Return Measures 323Sharpe Ratio 323Sortino Ratio 324Symmetric Downside-Risk Sharpe Ratio 325Gain-to-Pain Ratio (GPR) 326Tail Ratio 326MAR and Calmar Ratios 326Return Retracement Ratio 327Acknowledgments 329About the Author 331Index 333