I JUST FINISHED rereading a book every serious investor needs to reread: Moneyball: The Art of Winning an Unfair Game. It was written by Michael Lewis in 2003, but it’s still quite relevant to baseball—and to investing.
It’s the story of the Oakland A’s general manager, Billy Beane, and his struggle to create a competitive baseball team on a limited budget. How does this relate to personal finance? Well, first let me explain my connection to Moneyball.
It was a time long ago, meaning the 1970s. Due to then-limited technology, a baseball player’s batting average was displayed on television only during his first at-bat. I have a distinct memory of watching a New York Mets game and asking my father, “What’s a batting average?”
He patiently explained that it was basically the number of hits divided by the number of at-bats, and that it didn’t include walks. I remember thinking that math may be more useful than I thought and… why weren’t walks included?
When I watched subsequent games, read the newspaper and talked with fellow fans, a player’s batting average is what everyone wanted to talk about. After all, having the highest batting average enabled a player to claim the prestigious title of batting champion.
I quickly realized that walks were incorporated into another number, the on-base percentage. This number is basically the number of times a batter safely reached first base divided by the number of plate appearances.
As there were many players skilled at obtaining walks, a player’s on-base percentage could be significantly higher than his batting average. And because a walk was as good as a single, I realized that a player’s on-base percentage was a much better indicator of a player’s worth than his batting average.
For instance, in the 1970s, there was a coach on the Mets named Eddie Yost. As a player during the 1940s and ‘50s, he walked so much that his nickname was “The Walking Man.” His on-base percentage was a fantastic .3940, meaning he reached first in nearly four out of every 10 plate appearances. That’s the 87th highest of all time, well ahead of Hall of Famers Willie Mays (.3836), Ken Griffey Jr. (.3695), Johnny Bench (.3416) and Cal Ripken Jr. (.3402). Since Yost’s lifetime batting average was a modest .254, few know of him today.
On-base percentage plays a significant role in the book Moneyball. There’s a key scene where Billy Beane’s scouts encourage him to draft prospects based on phrases such as “good body, big arm,” “the guy has a cannon” and “he’s noticeable.” It’s said of the best prospects that “he’s a tools guy,” meaning he has all five tools—he could run, throw, field, hit, and hit with power.
Later in the book, when current major league ballplayers are analyzed, everyone but Beane wants to talk about their batting average. It was common knowledge among managers, scouts, writers and fans that the number of runs a team scored was directly related to a team’s batting average.
An exasperated Beane states that all these metrics are dated and well-known by every other team in baseball. If Oakland wants to win on its tight budget, it’ll need to think differently and start using other metrics, especially on-base percentage, in evaluating which players to sign. He also knew—through nascent baseball analytics—that both his scouts’ recommendations and batting average did not equal runs, but that on-base percentage did.
His scouts were not impressed. Beane pushed ahead anyway and built a winning team on a limited budget based in large part on focusing on a player’s on-base percentage. When I read the book, I thought, “Hey, that should be me.”
What does all of this have to do with personal finance?
If you think you can improve on the market’s risk and reward by investing in individual securities and, in effect, beat the market, that’s fine. I think it may be possible. Hard work can overcome many obstacles.
You’re doomed to failure, though, if you apply all that hard work to using dated and well-known metrics such as dividend yield, price-to-earnings, price-to-sales, beta and so on. When investing, they’re the equivalent of the “tools guy” and the batting average—terms still quoted on television, online and by fellow investing fans, but essentially useless because such information is already reflected in today’s stock prices. Old habits die hard. Wikipedia still displays batting average under a player’s “MLB Statistics,” but makes no mention of on-base percentage.
Oh, by the way, now that everyone in baseball knows about on-base percentage, Beane has found it has become much less useful in finding undervalued players.
Can the market be beaten? Offer your thoughts in HumbleDollar’s Voices section.
Michael Flack blogs at AfterActionReport.info. He’s a former naval officer and 20-year veteran of the oil and gas industry. Now retired, Mike enjoys traveling, blogging and spreadsheets. Check out his earlier articles.
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While visiting my son in Boston this weekend, we went to Fenway yesterday and watched the Sox snatch defeat from the jaws of victory in the top of the 9th. It was brutal. But what wasn’t brutal was the pace of the game. The pitch clock kept things humming and the game was over in about 2:27. MLB is a much better experience now. So, if you were bored with the game, check it out.
The great analogy is made in the next to last paragraph. And this is why all the comments to the effect that it can’t be done sort of miss the point in my opinion. I know most (including me) can’t do it, but if someone discovered a “tool” or metric that the market doesn’t currently incorporate, that could be another story.
Michael1, it is rare that my opinion is too subtle. Btw: great user name.
When I worked in the investment business, our clients often assumed we had some special tool or ability that would help them generate higher returns, and, I am sorry to say, our telling of our investment experience and expertise did little to disabuse that belief. We did not and I learned over time to remind clients that if we did, none of us would need to be still be working as their investment advisors. Our primary job was to help them find a reasonable asset allocation appropriate to their risk tolerance and, more importantly, to prevent them from making dumb mistakes.
I love baseball, I loved Moneyball (book and movie), and I love this article and ensuing discussion!
Dr. L, I appreciate all the Love.
I love it when everyone starts talking baseball, it reminds me how we all have recency bias. I played baseball for a brief stint in Oakland, and let’s just say Moneyball may have worked once, or twice. People forget about the fact they “walked” into one of the best pitching rotations in history with Barry Zito, Mark Mulder, and Tim Hudson. That was pure luck of the draw and timing.
Secondly, the last time I checked, Oakland hasn’t won a title since 1989. So although they may have bought into sabermetrics and analytics, it has not brought them a title, since we measure success in sports on wins and championships. Furthermore, it has not brought them attendance either, hence the rumor of a move to Las Vegas.
I digress, Robert Frost also believed in the road less traveled, but those who ignore history are doomed to repeat it in most cases. I agree that following the masses may not make sense in the long term, but ignoring them altogether is doomed to failure.
Kevin Thompson, Beane and his predecessor/mentor drafted Messrs Zito, Mulder, and Hudson out of college which is one of the main tenets of Moneyball (as college statistics are much more predictive of major league performance than high school stats or terms such as “the guy’s an athlete” or “He has presence”). And that was luck?!
In 2002 Beane was tasked by the A’s owner to build a winning team on a limited budget. That year the A’s payroll was $39,679,746, which was a quarter of the N.Y. Yankees’ league-leading payroll. Subsequently, he was tasked to build a winning team with a non-existent budget. In 2022, the A’s payroll was $29,283,334, which was 10% of the L.A. Dodgers’ league-leading payroll. Building a team using Monyeball can significantly increase a team’s success, but it cannot get blood from a rock.
You go with the masses, I’ll go with Eddie Yost (and Ted Williams).
> Oakland hasn’t won a title since 1989. So although they may have bought into sabermetrics and analytics, it has not brought them a title, since we measure success in sports on wins and championships
I have to disagree with the conclusion here on a few points:
(1) The point of sabermetrics isn’t necessarily to win the championship, as weird as that sounds. The goal is to generate excess value. And Oakland had a great run getting excess value out of their players/payroll. But there is a point at which if a team is not resourced (either because of small market or stingy owners), it cannot compete against teams with greater resources. Let’s say you are a small hamburger shack. You might double your profit, which is a success for you, but you will never beat McDonald’s. Did you fail? Not really.
(2) After a few years, sabermetrics became widely accepted and practiced, so Oakland hasn’t had the advantage for 15 years or so. Everyone now knows that OBP is more important than BA, so everyone will be chasing after the same type of players that Oakland used to be able to pick up om the cheap. But they still have managed winning seasons and playoff seasons in the 2010s.
(3) The successful clubs are all in on analytics. The Astros (cheating scandal aside) and Tampa Bay have big analytic departments and have sustained success. So you can’t diminish modern analytics.
(4) Back to point #1, teams can have successful seasons even if they don’t win the championship for years. Similarly, investors can have financial success if they don’t beat the S&P 500 each year or come out #1 in their investment group. So I 100% agree with your later comment in this thread that the index fund is a better strategy–even if t doesn’t “win the championship” per se.
I hope this doesn’t sound like I’m criticizing you too harshly, Kevin. And I know I do so at my own peril, since you were in the game and saw all the stuff behind the scenes that I can only imagine. That said, let me end by saying that I genuinely enjoy your posts, and wish you had the opportunity to post more often!
And of course as all teams started playing “Moneyball” they made the game longer and less watchable. So Theo Epstein (Moneyballer with Red Sox and Cubs) had to implement rules to get rid of the “Moneyball” tactics. And as for reading “Moneyball” I would also recommend a few other Michael Lewis gems :Blindside, Liars Poker, and the Big Short.
As for market performance, a JP Morgan study suggest that since 1980, the Russell 3000 index has had 40% of the index lose 70% of its value and never recover. 50% of the index lost 50% of its value and never recover. Effectively, all of the return for the index came from 7% of the 3000 companies. The russell 3000 is up 73 fold since 1980. So the question is, can you pick the 210 companies correctly? Likely not, so choosing the Index was likely the smarter decision.
The thing is, even if we somehow managed to *pick* those 210 companies, would we somehow have the foresight, temerity, and gumption to actually hang on to them until they had produced that 73x gain? Wouldn’t we be tempted to sell them at a 10x gain? How about 20x? I know I sure as heck would be tempted to bail.
It seems then, that picking the “winners” is only the beginning our (rather daunting) task. Thought of this way, it makes indexing for the long haul sound pretty appealing, at least to me.
As a former youth and high school umpire when I think about the common quirks of ball and investing I am inclined to first think of the infield fly rule.
William Stevens, a former navel officer and attorney wrote a fun article for the Univ. of Penn Law Review in 1975 titled –
ASIDE – THE COMMON LAW ORIGINS OF THE INFIELD FLY RULE
https://scholarship.law.upenn.edu/cgi/viewcontent.cgi?referer=https://en.wikipedia.org/&httpsredir=1&article=5322&context=penn_law_review
The infield fly rule was designed to make the game fair when some of those playing use trickery to profit by their own unethical conduct. My take is learn the rules and remember that there are always those seeking advantage both using or outside the rules.
I watched the Money Ball movie but have not read the book.
Here’s one of my favorite articles on this subject:
https://awealthofcommonsense.com/2017/02/how-the-bogle-model-beats-the-yale-model/
In short, if big players with nearly unlimited budgets struggle to even match market performance over time, much less beat it, what chance has the small investor got? Your best shot, of course, is outlined in that article, and preached by HD most every day. As for the usefulness of deploying quixotic strategies that actually “beat” the market, I would simply remind that there are big lottery winners every day. But that simple fact doesn’t make playing the lottery a reliable, likely, or logical avenue to accumulating (and keeping) significant wealth.
The latest thinking is that OPS (on-base-percentage plus slugging percentage) is the best measure of batting performance.
Among batting average, OBP and SLG, which correlates best to team runs? That can vary, but it’s never batting average.
If increasing batting averages always brought more runs, the correlation would be 1. In 2020, the runs correlation for batting average was .739. Basically, batting average missed about 26% of offense.
OBP was better at .840 and SLG better yet at .925. Put OBP and SLG together into OPS, and the correlation moves up to .934.
https://chicago.suntimes.com/2021/5/17/22441250/baseball-by-the-numbers-batting-average-obp-slg-ops
Beane was operating on a budget much lower than most teams, so he was forced to seek low-cost inefficiencies in the talent acquisition market. He was able to exploit inefficiencies he identified for awhile until other teams realized what he was doing. The league caught up to him, and the tactics he used then were eventually neutralized.
This season the NY Mets have the highest MLB payroll at $346M. The Tampa Bay Rays have the third lowest payroll at $74M.
Current Records:
TB Rays: 30W – 9L – Leads their division
NY Mets: 18W – 20L – 4th in their division
I don’t know what this shows exactly but I do find it interesting that even when you think you’re investing in the right assets they can fail to generate a return. I have sympathy because I know I would be a poor MLB general manager or individual stock investor.
You think you can beat the market? Seriously? I’ll believe that when you do it.
Depends on your definition of “beat”. When most people say that, they mean a higher CAGR. That would be easy to do over a long enough time horizon, but one would have to accept a higher volatility to do so. (This could come from the type of asset held or just increasing leverage.) That is why a more accurate measure of “beat” would likely be the risk-adjusted performance vs. the market. (Measured by Sharpe, Treynor, Sortino, Omega, etc.) Is this possible? Theoretically, but as Jonathan points out, it will be a minority in a single year and that percentage will get smaller over longer time periods. There likely are AI-based strategies that large investment firms have which they pour millions of dollars into (PhDs, lots of hardware, etc.) that can beat the market but us regular folks don’t have much of a shot.
I mean: do you believe that you, an individual, will wind up over, say, ten years, with more money, after taxes and fees, than you would have received by investing in Vanguard’s total market or S&P 500 index fund? I remind you of Buffet’s successful bet against hedge funds. Why would you even try? I have better things to do with my time.
10 years is a tough timeframe, but given, say, 20 years, you could have more money invested than the S&P 500 in a large majority of the cases.
Higher volatility will lead to higher long term results, because investors have to be compensated for the higher volatility. (Put another way: the chances of gaining money have to be higher because the chances of losing money are higher.) We take this for granted when talking about different classes: For instance bonds are riskier than a checking account and pay more, but stocks are riskier than bonds so pay more. Within stocks, there are riskier and less risky: for instance utility stocks are less risky than tech stocks and therefore tech will pay more over the long term. You can also “artificially” ratchet up the risk/reward by using leverage. However, the drawdowns will be much more painful, but over the long term you should (theoretically) earn more, just like a stock investor can earn more than a bond investor over the long term
All of the talk about risk is before even discussing diversification. Diversification is seen as the only “free lunch” by most economists. The same reason that you diversify to 500 large caps is the reason you might diversify into the entire US market or the entire world market. Given a long enough time frame, increased diversification should outperform.
Did you read the article wtfwjtd linked? The one I linked? All the evidence says you are wrong. Do you have any evidence that says you are right? “Could have” and “should outperform” are guesses, not evidence. Diversification is what you get in a total market fund, no individual investor can manage that kind of diversification with individual stocks (unless you are already a multi-millionaire).
Any backtest can tell you that a stock index outperform a bond index which outperform checking accounts over long enough timeframes. (As well that more speculative sectors outperform less speculative sectors, or that small amounts of leverage outperform no leverage) None of that is very controversial stuff, so I’m not sure why you are pressing me on it. A good website is Portfolio Visualizer if you have never used it.
Again, when I say “outperform” I am meaning higher returns. I don’t necessarily think that is an outperformance overall because returns are not the only metric to look at. Risk adjusted returns is what should be measured.
The point on diversification is that you mentioned the S&P 500 and I was just pointing out that the total market or total world market offers more diversification than that. Any reason to diversify into the S&P 500 can also be the same reason to diversify more.
I also mentioned the total market index. I am disputing that an individual investor can beat the index, which Michael said he thought was “possible”, a position you appear to be supporting (“a large majority of the cases”). Risk adjusted return is of no interest to me, I am interested in actual return, i.e. money in the bank, or fund in this case.
Ok, I’m not sure how to respond other than how I have already.
Here (link) is a very simple example of SPY (most popular S&P 500 ETF) vs SPY with 50% leverage. (1.5x, may have to scroll to the bottom to see the chart) I am not recommending someone go out and do this, this is just an illustration to show you that the total at the end is higher than if you had just held. You could also compare other things such as Nasdaq or tech sector or something, but it seems like you wanted a very simple example that shows it is possible to beat the S&P 500, so there you go.
Again, that wasn’t really what I was arguing or saying, but that seems to be what you were wanting to see?
You didn’t beat the market, you simply invested more money. And does this account for the costs of borrowing that additional money?
I wouldn’t disagree with that at all, and you are right that I didn’t factor in costs since it was just a simple example. (You can add those in with the tool though.) There are also a number of other issues with using leverage; for instance the large drawdowns that most people couldn’t handle. That was why I said it wasn’t something to recommend and I was only giving it because I thought that was what you were asking for. (You said something to end higher than the S&P 500 so I came up with the simplest way to do that.) There are also sectors that have outperformed the S&P over time such as technology and consumer discretion and there are even writers here at HD who have talked about the overperformance of sectors, such as health care. There are also tons of other trading strategies to beat the S&P 500 if that is what you are looking for (Google it and you will find thousands) but they are all fit to backtest data so I wouldn’t use any as proof of anything substantial because the future could be different. I only ever advocate for whole market indexing though so that is what I do and I never try to pick which direction the market is going. Like I said to begin: I agree with Jonathan and only a very small minority will consistently “beat” the market over the long term. (Again, higher returns is not necessarily equal to “beating” the market by my definition.)
As a matter of probability, some investors will beat the market, though the percentage will decline as the time period analyzed is lengthened, thanks to the relentless toll of investment costs. The question is, among those who succeed, is it luck or skill? I know which way I’d bet!
IMO the only people who have beaten the market over the long run are those who made one or two enormously successful investments that more than compensated for their subsequent investments. For example, $10,000 invested in MSFT when it was first listed in 1986 would now be worth $32.3 million. One would have also earned $3.4 million in dividends.
Which types of metrics would be more useful than “dividend yield, price-to-earnings, price-to-sales, beta and so on”?
Shareholder yield? (Dividend yield + Buyback yield)
https://www.nathanwinklepleck.com/p/shareholder-yield-vs-dividend-yield
Nate Allen, If I knew . . . I wouldn’t tell you.
As a long time baseball player/coach/fan I can only say “Billy Ball” made baseball nearly unwatchable … Thank heavens they finally banned the shift and are getting more balls in play and action … I think this year’s game is proving much more enjoyable to watch
George Counihan, my knowledge of the game is so dated, that when you said “Billy Ball” I thought you meant Billy Martin and his strategy of leaving starting pitchers in the game so long that they eventually ruined their arms (that and the tactic of arguing with umpires and getting thrown out of ballgames).
I remember reading and hearing stories about the Ted Williams shift. I saw it occasionally applied to dead-pull hitters like Kingman, but that was about it. When it became quite popular these last few years, my first thought, was “What took you so long?”
Not sure if “Billy Bean Ball” (BBB) has made the game more unwatchable. I think it had more to do with the slow pace and game length.
I agree but I am not a fan of the pitch clock.
What about the universal DH or larger bases?
Nate Allen, the universal DH quite simply signifies the beginning of the end of days.