A Random Walk Down Wall Street

"As a college student, I hadn’t really considered majoring in economics. My plans were still squarely focused on STEM, but I needed to take a course to fulfill my distributional requirement in the humanities. So I ended up taking an economics course taught by a very charismatic professor—Saul Levmore—and one of the books he assigned was Malkiel’s A Random Walk Down Wall Street. I had never been interested in investing, but having learned about the ‘random walk’ in mathematics, the title intrigued me. It’s a wonderful read because it doesn’t presuppose any background knowledge of economics or finance, and it really takes the reader by the hand through some fascinating aspects of the field, including bubbles, crashes, and whether you can beat the market systematically over time. I just loved it. It was the first time that I developed a real appreciation for finance as an intellectual pursuit with some really subtle and important questions that you could answer using some fairly advanced mathematics. After that great experience, I decided to take another economics course—this time with an even more charismatic professor, Sharon Oster—and that course put me over the edge, convincing me to major in economics and apply to graduate school for my Ph.D. That’s the amazing thing—it’s had so much staying power. It was written in the 1970s, a bestseller when it came out, and it’s still a bestseller now. I recommend it to my MBA students today because it’s just a wonderful introduction to the field of finance. At the same time, it provides some very sensible advice for investors about how to manage their own money."

"Yes, that’s the book I recommend when asked by people who are highly intelligent, have a little bit of money, but feel at sea. I’m not very impressed by financial advisers—for pretty good reasons. But there is very little you can read on investment that’s not insulting to the intelligence. As you know, there are lots of ‘how to become rich by day trading’ books around, but intelligent people know what to do with those kinds of books: namely not to open them. The first edition of Malkiel’s book was published in the early 1970s, soon after people started talking about the Efficient Market Hypothesis. That’s the idea that all relevant information about securities is in the price. That led people to think about index investing which really began then. You didn’t need to pay active managers who, on average, were not worth their cost: you could simply replicate the index as a whole. “There is very little you can read on investment that’s not insulting to the intelligence” That was about the time a rather evangelical Jack Bogle in the US set up Vanguard to market index funds to individuals. Vanguard has now become one of the largest fund managers in the world, still specialising in that kind of product. Essentially, the theme of Malkiel’s book was that you could, in effect, do investing yourself. Yes, but of course there were very few index funds around then, which is really why Bogle set up Vanguard. Now, of course, there are lots. The Efficient Market Hypothesis is if you think…Gosh. What would everyone agree is a good company these days? We used to say Tesco or Sainsbury’s. Let’s take Apple. Apple produces excellent products, it has a very enthusiastic band of consumers, it’s a very profitable company and has a very large pile of cash—but everyone knows these things and so the market value of Apple reflects the fact that everyone knows these things. That’s true generally. If it’s general knowledge, you would expect it to be reflected in the price. What I say in my book—and I can’t say it often enough—is that the Efficient Market Hypothesis is illuminating but not true. If you haven’t grasped that idea, that publicly available information is going to be in the price, you really have no idea how to go about investing. But, equally, it’s a mistake to think that the Efficient Market Hypothesis is invariably true. If it were invariably true, Warren Buffet and George Soros and others would not be very rich men. That’s right. If you haven’t got that idea, you haven’t got to base one. Yes, and without doing too much talking down to people either. There are some corny American jokes that perhaps don’t go down quite so well with a European audience, but you can forgive that. Yes. If you go and see a doctor, you’ll have a reasonable expectation that what he or she proposes to you is in your best interest. That used to be true of an accountant or a lawyer as well. It’s perhaps less true of them now, but it still has some validity. It’s much less true of a financial adviser, unfortunately. It’s partly a matter of incentives. A lot of things have been done in the UK to try and remove the distorting incentives, knocking a lot of the more overtly corrupt practices out of the industry. But it’s still pretty bad in the US. I suppose people just go where the money is. Historically, it was true that for professions like medicine or accountancy there was a rigorous professional training. That’s never been the case with finance. There has been no rigorous professional training either of financial knowledge or about ethics. Get the weekly Five Books newsletter People would claim there is now, as a result of modern finance theory. Indeed the CFA Institute is attempting, with some success, to replicate the knowledge and ethics of other professionals across the finance sector. Whether the corresponding body of knowledge is actually all that valuable is another matter altogether… No, of course not. Well, over a long period of time it’s gone up. Over the last 10 years, it’s gone up. 1999. You would have recovered by now, but 18 years is a long time. 1969 would have been another bad time to have bought an index fund. No comment. If you buy an index fund for the FTSE All-Share Index, say, all you’re doing is buying all the companies that are listed on the London Stock Exchange. That will include British companies, although the largest British companies that dominate the index are, in fact, companies that largely operate overseas. You’d be buying BP and Vodafone and Glaxo and so on. You would also be buying any company which has a London listing so you might be buying eastern European-run resource companies with somewhat doubtful commitment to high standards of corporate governance. Indeed, there is competition to attract these companies among stock exchanges. Yes. The Saudis have been talking about floating some of Aramco over this past year. People are salivating at the prospective fees that this could produce and therefore suggesting that perhaps some of the requirements and obligations that are normally imposed on listed companies might be relaxed if the Saudis were to direct their business this way. The reckoning is that Aramco might well be the most valuable company in the world if it were listed. Yes and no. What I’m really against is people paying quite high fees for what is little better than an index fund. That is what is often offered to savers. You can certainly do better than that in an index fund and starting your investing activity by buying an index fund is not a bad thing to do. “I’m not very impressed by financial advisers—for pretty good reasons” On the other hand, as we’ve just said, you are buying a certain kind of company when you buy an index. It’s heavily weighted towards these large international companies. An index fund is not really very well diversified because economic sectors are weighted proportionately to the role of listed companies rather than by reference to the economic significance of the activity. All the big companies that dominate the indices basically sell to well-off consumers in western markets. Glaxo, BP and Vodafone are marketing to pretty much the same people around the world. In a sense, the drivers of their profits and earnings are much the same. You can diversify more if you’re willing to choose your own stocks. Also, you don’t have to buy shares in the eastern European controlled resource companies that you might not choose if you were to invest for youself . There’s not much to choose between them, for the retail investor. You also need to be slightly careful about the nature of the fund because there are funds that simply buy the stocks that are in the index. There are other funds that attempt to replicate it by buying derivatives, so-called synthetic funds. I think the unsophisticated investor should stick with ones that actually buy the stocks, like the ones from iShares, the biggest ETF provider, or Vanguard."

"This is a book everyone should read. Finance is so important these days, people who work in it make such massive salaries compared to the rest of us, that you really have to be armed to deal with the mumbo jumbo. I get the sense that Burton Malkiel is a bit on the defensive these days because this book is a lot about the ‘efficient market hypothesis’ — the idea that the market is good at determining the prices of things — and how can that be true when you have all these bubbles? That just doesn’t bother me too much. You need a tool for getting a handle on how markets operate, and, even if the theory itself isn’t foolproof, what’s really great about the book is that it teaches you to develop a sceptical attitude to financial service professionals in general, and fund managers in particular. Other than lining their pockets, you really are not doing anyone else any favours by investing with them. This book gave me the foundation for a whole decade in financial journalism, culminating in a stint as a staff reporter covering the Shanghai stock market for Dow Jones and even reporting on North Korean bond issues. So while I can’t claim I know what I’m talking about, it is an area where I’ve spent a bit of time in the trenches. If you like Burt’s book, you might also like to read some of the books on investing he recommended . He didn’t want do an interview with us, but he gave me the titles of his top five. Our interview with Jason Zweig is also highly informative and in the same skeptical vein."