Chapter III

Chapter III: Stocks and Investing

13 min · 12 ideas

John Bogle, the father of the index fund, spent his whole life saying the same thing: "Owning the stock market over the long term is a winner's game, but attempting to beat the market is a loser's game."

1. Owning Stock Means Being an Owner of the Company

I often remind myself that the stocks I hold aren't strings of ticker symbols; they're small pieces of companies. Buy one share, and you become a shareholder in that company, sharing its risks and its rewards with the other shareholders. Every morning, that company's employees go to work, develop products and serve customers — and part of the money they earn is yours.

Once you grasp this, you'll look at stocks differently. As Kim Seung-ho sees it, truly wealthy people usually hold on for a very long time, because what they care about is whether the company will keep growing, not how much it rose at today's close. Share prices jump around every day, but good companies grow stronger slowly, year after year.

John Bogle once asked a question: are you an investor or a speculator? Investors own businesses and hold them for the long term, sharing in the returns those businesses create from the very beginning; speculators bet on prices.

When you buy a broad-market index ETF, you become an owner of hundreds or even thousands of companies at once. That's exactly the approach this book asks you to take.

2. Market Fallacies

There are a few sayings about the stock market that everyone has heard and, at one time or another, believed — and they're exactly what keep most people losing money. Let me lay them out one by one.

1. Buying When Prices Are Rising

Many people have an instinct that only rising stocks are safe, that you can feel at ease only buying what everyone else is buying, and that falling stocks shouldn't be touched.

But think about how you shop at a department store: clothes, appliances, even cars — you wait for the anniversary sale or a discount before you buy. So why, when it comes to the stock market, do people rush to buy when prices are at their highest? What decides whether you make or lose money is often not what you buy, but the price you pay. (This is Howard Marks's point.)

2. Treating the Market as a Casino

Another common misconception is to treat frequent trading for small price differences as "investing." In fact, it's more like sitting down at a gambling table. The casino's rule is: the longer you play, the more likely you are to lose — and no matter who wins or loses, the house that takes a cut always comes out ahead. In the stock market, that cut is the brokerage fees and transaction taxes.

In his 1991 letter to shareholders, Warren Buffett wrote that "according the name 'investors' to institutions that trade actively is like calling someone who repeatedly engages in one-night stands a romantic."

3. Thinking Short-Term Trading Makes Money Faster than Long-Term Investing

Short-term trading looks exciting, as if the money comes quickly. But the money that really snowballs is the money you leave alone to compound. Slow turns out to be the fastest road.

Taiwan's trading data gives the clearest answer. Researchers who studied day traders using the complete trading records of the Taiwan Stock Exchange (TWSE) found that fewer than 1% of day traders were able to profit consistently and reliably (Barber, Lee, Liu and Odean, Journal of Financial Markets, 2014; data period 1992–2006).

4. Thinking You Can Predict the Market's Direction

In A Random Walk Down Wall Street, Burton Malkiel stresses one point again and again: no one can predict the market's direction accurately, so no one can beat the market consistently. I think this is the first lesson of managing money — admit that you can't predict it, and only then will you be on the right road.

And yet, the less people understand, the more sure of themselves they are. Psychologists call this the "Dunning-Kruger effect": the less competent you are, the more likely you are to overestimate yourself. In his 2015 memo "It's Not Easy," Howard Marks recalls Charlie Munger once telling him something to this effect: investing isn't supposed to be easy, and anyone who thinks it's simple had better be careful.

If you can't beat the market, join it: buy the whole market, and let its growth become your growth.

5. Trading on News, Analysis and Tips

Ask yourself one question: if there really were a sure-fire tip, why would anyone tell me? Most of the time, information that's handed to you unasked is meant to make money off you — either by collecting your fees, or by getting you to take the shares off their hands.

Besides, by the time a piece of news makes the headlines and reaches your ears, the price has long since reflected it. News that everyone knows is no longer worth anything.

6. Buying Individual Stocks and Actively Managed Funds

If you bet your money on one stock, or just a handful, your chances of losing are much higher than you think.

The American scholar Hendrik Bessembinder analyzed 26,168 listed US companies from 1926 to 2019. He found that the US stock market created about US$47.4 trillion in wealth for shareholders, yet 57.8% of the stocks earned less over the long run than one-month US Treasury bills — in effect, they made their shareholders poorer. The wealth the market created was concentrated in a tiny number of companies: fewer than 100 firms, about 0.3% of the total, created half of all the wealth.

Professional fund managers find it hard to beat the market, too. Long-term statistics from S&P Dow Jones Indices (SPIVA, year-end 2025 edition) show that about 90% of US large-cap active funds trailed the S&P 500 over 15 years, and about 93% trailed it over 20 years.

Buffett once made a public bet that over ten years, an S&P 500 index fund would beat a portfolio of hedge funds picked by professionals. From 2008 to 2017, the index fund returned about 8.5% a year (125.8% cumulatively over the ten years), while the five funds of funds picked by his opponent averaged only about 3% (36.3% cumulatively over the ten years). Buffett won easily and gave the winnings to Girls Inc. of Omaha.

7. Thinking It's Easy to Make Money in the Stock Market

(1) Most people lose money in the stock market.

There's a saying in the market — "seven out of ten lose, two break even and one makes money" — but it's only folk wisdom. The truly reliable evidence comes from academic research. Scholars from the University of California, National Chengchi University in Taiwan and elsewhere studied the complete trading records of Taiwan's stock market from 1995 to 1999. They found that Taiwan's individual investors lost about 3.8% of the amount they invested each year because of their trading, equivalent to 2.2% of Taiwan's annual GDP (Barber, Lee, Liu and Odean, Review of Financial Studies, 2009).

Where do these losses come from? About 27% comes from picking the wrong stocks and making the wrong trades, 32% is commissions paid to brokers, 34% is transaction taxes and related costs, and 7% comes from bad timing. The more often individual investors trade, the faster their wealth moves out of their own pockets and into the pockets of brokers, the government and the people on the other side of their trades.

(2) Individual investors often lose money in bull markets.

Researchers who studied China's 2014–2015 stock market bubble found that while the bubble was inflating, the wealthiest households bought in and the bottom 85% of households cut back. Once the peak passed, the rich got out fast, selling their shares to smaller individual investors. Over those 18 months, the 85% of investors with the lowest incomes lost about 250 billion yuan, while the richest 0.5% made about 250 billion yuan — in each case roughly 30% of the stock wealth they had started with (An, Lou and Shi, Journal of Monetary Economics, 2022).

In other words, the moment a craze is at its hottest is often exactly when small investors are most likely to be fleeced. The less money you have to start with, the less you can afford to lose — and the less you should bet everything you own when the crowd is at its loudest.

(3) Why individual investors lose money comes down to the fallacies above: chasing highs, short-term trading, trying to predict the market, following tips, betting on a few stocks — as well as investing with borrowed money.

3. Investing, Speculation and Gambling

In The Intelligent Investor, Benjamin Graham gives this definition: "An investment operation is one which, upon thorough analysis, promises safety of principal and an adequate return. Operations not meeting these requirements are speculative."

• Investing: buying things that create value, and letting time build up the gains slowly.
• Speculation: trading to profit from a one-time price difference, usually with an element of gambling.
• Gambling: a game where luck decides who wins, and which you're bound to lose in the long run.

There's a line often attributed to Bogle (I couldn't find the original source): speculation makes you put your emotions first; investing leaves emotions out.

Graham's Three Core Ideas

1. Intrinsic value: what a company is really worth depends on how many assets it has, how much it earns, how much it pays in dividends and how clearly you can see its future. The share price is just the price the market is offering today.
2. Margin of safety: buy at a price clearly below value, and the gap between the two becomes your cushion. The bigger the gap, the less likely you are to get hurt, even if your judgment is a little off. And bargains like this show up most often when everyone is frightened into selling — which is the logic behind "be greedy when others are fearful."
3. Businesslike investing: "Investment is most intelligent when it is most businesslike." Think of yourself as the owner of a business — understand it and grow alongside it, instead of staring at price quotes every day.

Graham also laid down stock-selection guidelines for the ordinary "defensive investor" (a company of adequate size, financially sound, with stable and growing earnings, a long record of paying dividends, and a price-to-earnings ratio and price-to-book ratio that aren't too high). For families that buy only broad-market ETFs, you don't have to check these conditions one by one yourself — the index automatically weeds out the weak and keeps the strong. What you need to learn is Graham's spirit: treat stocks as businesses, and buy more when they're cheap.

1. The Addictive Nature of Gambling

The American psychiatrist Robert Custer divided gambling addiction into three phases: roughly, a path that leads downhill. At first you're on a lucky streak and think you've figured out the secret (winning). Then you lose and want to win it back, so you borrow money, raise your stakes and bet bigger and bigger (losing). In the end you're buried in debt, your family and your job have collapsed, and the only roads left are suicide, prison, running away or asking for help (desperation).

I've included this because guessing short-term ups and downs is a lot like gambling: the thrill of the moment you make money triggers the release of dopamine in the brain, making you want to do it again and again. Only when you know it's addictive will you guard against it in advance.

2. Only Those Who Can Control Their Nature Make Money Investing

Long-term investing takes patience: you plant today and harvest many years later. But human instinct is just the opposite — we want what we want, ideally right now.

So understanding the principle is one thing; sticking to it while you watch the prices jump around is another. This is how many people get pushed along by their emotions: when prices rise, they can't resist chasing them, and once they chase, they're stuck; stuck, they try to average down, only to sink deeper; when they can't hold on any longer, they sell at a loss — and that's exactly when the price turns around.

The method of investing is actually simple; the hard part is managing yourself. Only those who can make peace with their nature — or even act against it — manage to hold on to their money.

4. Mean Reversion

In the short run, stock prices can be absurd; in the long run, they follow the money companies actually make.

André Kostolany's metaphor of "the old man and his dog" captures this vividly. Picture it: the owner walks slowly forward, while the little dog on the leash runs all over the place — dashing ahead one moment, lagging behind the next. But the leash is only so long; however far the dog runs, it always has to come back to its owner. The owner stands for the real profits of the economy and of companies; the little dog is the stock price.

Our trouble is that we watch only the dog. When it dashes ahead, we think it will keep dashing ahead; when it runs back, we think it will keep retreating. But study history long enough and you'll find: what has risen a lot will fall, and what has fallen a lot will rise.

This is also one of the most important practical conclusions of this book: big drops and crashes are chances to add more, not reasons to run away. (Chapter V explains this in detail using long-term data from the US, Japan and Taiwan.)

5. The Owner's Mindset

You're buying a company, not a stock; you're buying a business, not a share price.

Peter Lynch compared a bear market to a winter blizzard: it will come, and it will be cold, but it won't be the end of the world — so there's no need to pay attention to frightening short-term predictions. Buffett sees it the same way: what a company is worth depends on how much money it earns for its shareholders over the years, not on today's share price.

When you buy a broad-market index ETF, you're an owner of the entire market. Look at your investments with an owner's mindset, and you won't be led around by daily share prices.

Key Takeaways

1. Owning stock means being an owner of the company; buying a broad-market ETF means being an owner of the whole market.
2. The most common market fallacies: chasing highs, treating the market as a casino, short-term trading, trying to predict the market's direction and trading on tips.
3. Most individual stocks reduce their shareholders' wealth; over nine in ten active funds lose to the market over the long run.
4. Taiwan's individual investors lose about 3.8% of the amount they invest each year through trading, and fewer than 1% of day traders can make steady profits.
5. Investing builds up gains over time; speculation and gambling rely on luck and are bound to lose in the long run.
6. Mean reversion: what has risen a lot will fall, and what has fallen a lot will rise. A big drop is a chance to add more.