Beware of Stock Tip from "Market Gurus" | Healthy Mind - Think Big

You must have seen them because these things are spreading across YouTube like a plague. You get the point. And it begs the question: Is it really a good idea to listen to stock tips from these YouTube “gurus”? Should you invest your hard-earned money with them? Today I’m going to give you my reasoning for why the answer to both of these questions is a definite NO. I put up a poll a few days ago on this channel, and it seems like a little bit more than 50% of you guys have coat tailed a YouTuber at least once, so I hope that this post can raise some awareness. This is the Healthy Mind - Think Big, bringing you the best tips and tools for reaching financial freedom through stock market investing.

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Let’s start out by listening to what the greatest investor of all time, Warren Buffett, has to say about this topic: I’m always suspicious of people when they’re sharing with the world any great ideas on investments. And yes, Buffett is definitely leading by example. Just take what he had to say when he was asked about his opinion on a potential investment in the chewing gum company Wrigley: Well, we wouldn’t want to comment on a company like that because we might or might not be buying it. We might or might not be selling it. We might or might not buy or sell it in the future. Here’s a quote from Berkshire Hathaway’sannual shareholder letter from 1983, where Buffett elaborates on this: Good investment ideas are rare, valuable, and subject to competitive appropriation just as good product or business acquisition ideas are. Therefore, we normally will not talk about our investment ideas. 

Now, why does Buffett act this way? And why should every serious investor do so too? Let me explain. Like the price of anything else, the price of shares of listed stock market companies is determined by supply and demand. If you have a large following on social media or otherwise, what is likely to happen if you promote your bullishness on a particular stock? That’s right, the demand for it will increase. When the demand increases, the price of the shares will rise. Before someone else comments on the obvious – Yes, Warren Buffett has a much higher impact on this than any single YouTubercan ever dreams of having, but the point is not the magnitude of the movement, but the direction. Which is up. Now, for the person who is doing the promotion, is this a good thing or not? That depends on their investment time horizon, and to simplify a bit, you can have either a short-term or a long-term view. 

If you are a short-term investor, ie. a trader, you will probably be better off by promoting your stocks to a large follower-base, because it gives you additional opportunities to sell at higher prices. To actively hyping up shares that you yourself own just to sell them once demand has increased is called a pump and dump strategy. This is considered market manipulation and it is illegal in most countries. It is also highly immoral because you’d earn money at the expense of your loyal followers, who probably will realize that you’ve pumped and dumped the stock too late to benefit from it themselves. 

If you are a long-term investor, you do not want the price of companies that you are currently investing in to rise. This might sound counter-intuitive, but it is the truth, so let me explain. Actually, let’s have Buffett explain, and I’ll elaborate on that afterward. And I’m going to be buying groceries for the rest of my life. Now, would I rather have grocery prices go up or down if I’m going to be buying groceries tomorrow and next week and next month and next year? And the answer is obvious if I’m a net buyer, I would — I will do better if prices are lower.

Let’s say that I’ve identified these 10 companies as interesting buys in 2021. Through analyzing the companies rigorously,I’ve come to the conclusion that the shares of the companies are worth this much. But what they actually sell for in the market is this much. It means that, while prices remain at this level, I could buy these shares with this much of a discount. Note that, as long as my plan is to be a net buyer of shares, in other words, if I’m in it for the long run, I want this discount to remain as large as possible. The larger the discount, the larger the expected returns of my purchases. 

If I were to promote these shares, they would become more expensive, and the expected returns on my purchases would be reduced. Remember – increases in stock market prices are not the only way to earn money from investing, it is not even the primary way. The primary way is to snowball the cash that your investments produce. You’d have to be someone like Warren Buffett to have this type of impact on these large companies that I’ve used as examples here, but with smaller companies, a YouTuber with a large following can have an important impact. Would you rather buy something for $137 than $164 if you think it is worth $250? I thought so.

There’s more to it though. Not only is it a stupid idea to promote your long-term investments from the standpoint that prices may increase to cause the stock not to be a bargain anymore, but it will also mess up your ability to view the situation objectively. This is due to something called “commitment bias” and there’s a great experiment on this which Robert Cialdini did on students in the 1970s. He assigned students into two different groups – A &B. With students from group A, he simply asked them to attend a study on thinking processes, which was to start at 7am in morning. 7am in the morning is quite early for a student, and even though the students were interested in this subject, only 27% of them decided to show up. Robert Cialdini decided to test his idea about commitment bias. With students from group B, he first asked them if they were willing to participate in a study on thinking processes. 56% answered that they would be interested in that. He then told them that the study was to take place at 7 am in morning. Being unable to go back on their initial promise, 95% of students from group B, out of the 56% who had stated that they wanted to attend, actually showed up. The moral of the story is that we tend to stick with our old decision even in the face of new information, especially if we’ve committed to them publicly. 

So chit-chatting about your stock picks on YouTube channel will cause you to hold on to certain stocks longer than what is rationally defensible. To sum up – promoting your stock picks to a large subscriber base as a long-term investor decreases the expected returns of your investment and it causes you to be irrational, decreasing your expected returns even further. 

So, there are two reasons forwhy people would promote their individual stock picks on a large social media account: - Because they are short-term investorswho wish to hype up the share price (at the expense of their followers) - Because they are long-term investorswho don’t know what they are doing Do you think it is a good idea to listento the advice from any of these two? Personally, I would never, and that’s also thereason why you’ll probably never see me talking about my own individual stock picks on this channel. Don’t get me wrong though – there could bevaluable information in studying other peoples’ specificinvestments if you: 

Firstly: Try to understand their reasoning rather than just blindly picking exactly what they are picking. And actually, it seems like most of those ofyou who answered that you have coat tailed someone on YouTube usedthis approach, which is better. 

But secondly: Study the right people - Like Warren Buffett, Peter Lynch,Benjamin Graham, Seth Klarman or Joel Greenblatt. People who have proven long-term track records. This might be a counter-productive thing for me to say but … having a large subscriber baseon YouTube proves that you’re a great YouTuber, not thatyou’re a great investor. 

Everyone is always looking for shortcuts in life. I hope that this post has helped you realize that listening to other peoples’ advice on individual stock picks is not a short-cut to wealth. It’s a short-cut to mediocrity. And that’s it for today’s rant! Now go study someone with a proven track record. Why not the greatest track record in history? That of Warren Buffett. Cheers guys, hope to see you again real soon!