This week, TheStreet and RealMoney will be exploring the aftermath of Lehman Brothers' bankruptcy filing and the ensuing market chaos it brought to a head almost a year ago. Read all of our One Year Later coverage.
NEW YORK (
) -- Kaye Hickey had come down with a common ailment during the financial crisis: Investment-account phobia.
It was January 2009, and as the stock market continued to free fall in the wake of the worst economic malaise since the Great Depression, the 65-year-old retired schoolteacher refused to log in to her TIAA-CREF account online. Monthly statements stayed in their envelopes.
"I just didn't want to see how far it had gone down," she says now. Not until this summer could she steel herself for her first look since late 2008, and it wasn't pretty: At the market's absolute trough in March, Hickey estimates her and her husband Jim's portfolio had lost perhaps a third of its value.
"'We always have the farm'," Jim Hickey told his wife at one point, referring to a tract of family property in a rural area of southern Virginia. "'We can grow vegetables." It was unclear how much seriousness, and how much joke, he had allocated to that statement.
The financial and economic earthquake of the last year has shifted the landscape in radical ways for an investor class -- variously described as the small investor, the retail investor, the individual investor, or the "little guy" -- that owns roughly half the outstanding shares in U.S. public companies.
Much has been written, and said, about how the crisis has exploded whole schools of investment thought, how it has called into doubt the most basic and long-held investing precepts. Modern portfolio theory -- from buy-and-hold to diversification to asset allocation -- was pronounced seriously wounded, if not dead.
And, of course, there's that ancient complaint of the small investor:That the system is rigged in favor of Wall Street's big wigs, the trading desks and hedge funds that use massive capital and super technologies -- not to mention the political clout -- to gain an edge on the markets.
So widely held is this notion that it, too, could be considered a kind of investing precept, and the financial crisis has done nothing to dampen the idea. It's only complicated it.
"There's been an inherent belief that Wall Street, such as it was, always had the advantage," says Quincy Krosby, now chief market strategist at Prudential Annuities, and formerly of
. "But I underscore
such as it was
, because Wall Street as we knew it isn't there anymore."
"Everybody is trying mightily to save the notion of a democratic capitalism," says Werner De Bondt, a professor specializing in investor psychology at DePaul University in Chicago. "But the belief that the small investor can fix his problems on his own -- I think that story is dead."
The post-collapse examples of reasons to be distrustful of Wall Street are legion:
recommending mortgage-backed securities to some clients but telling other bigger ones to sell those same securities short.
Alan Schwartz proclaiming the firm's capital position sound in a television interview, days before being forced to sell the company to
as it teetered on the brink of collapse. Add in the bonuses and the flash-trading technologies that would appear to give professional traders a serious edge, and you have a recipe for lots of doubt.
One now-retired small businessman from Pittsburgh, who requested that his name not be used in this article, says he ran one of his options trading accounts to more than $1 million during the boom years, only to see it crash all the way to $6,000 after the market commenced its meltdown in October. At that point, he says, he scaled back and went conservative, if not completely withdrawing from the game.
Among small investors, the financial crisis has bred "cynicism and mistrust," says De Bondt. "If people don't feel they're getting a fair deal, that will weigh on the financial system for a long, long time."
Retail investors have responded to the crisis -- and the doubts the crisis has inspired -- in well-documented, but sometimes conflicting ways. On the one hand, they've fiercely reallocated assets away from equities and into the perceived safe haven of bonds. Inflows into bond funds since the start of the year have reached record levels. TrimTabs, an economics-research outfit in Sausalito, Calif., estimates that $233 billion has gone into such fixed-income funds over the first eight months of 2009.
If anything, the pace might be quickening. In August alone, investors moved $40 billion into bond funds and only $1.9 billion into U.S.-equity funds, according to Morningstar, the mutual-fund research firm.
All this action indicates that the crisis has spurred the average Joe into reconsidering the classic 60-40 allocation mix in favor of equities. "I think people have been looking more honestly at their risk tolerance," says Don Bennyhoff, a senior investment analyst in Vanguard's Investment Strategy Group whose job is to work with the firm's army of financial advisors on the advice they give to clients. "There were probably a lot of people with portfolios that were more aggressive than they could honestly bear."
On the other hand, there remain legions of so-called "sitting bulls," those 401(k)-holders who have stood still with portfolios comprised 100% of stocks -- despite, well, everything. Many of these investors are younger, of course, with retirement decades in the future. Thus, they may simply think they can ride out the bad times. Or they may be suffering from inertia of the sort that came over the Hickeys earlier this year, when looking at the account was simply too difficult.
Most pros decry the notion that the crisis has undermined the basic validity of asset allocation and diversification. (The latter concept did indeed fall apart during the most dire days of the bear market, when value got killed across nearly all asset classes.) Rebalancing, putting money into investment baskets that don't correlate with one another, dollar-cost averaging -- all of it, they say, helps small investors buy low, sell high and trim risk.
"You can't control the market," Bennyhoff says. "You can just control whether you can respond to the market or not."
The spring and summer rally in equities has, if anything, muddied the waters further for small investors. The Hartford's Crosby notes that very few rallies "have had this kind of ferocity this quickly. The last one was in 1933."
"A lot of our clients are still pretty fearful," says Paul Nolte, director of investments at Hinsdale Associates, which advises clients with investable assets of about $500,000. Over the last nine months, Nolte himself has conducted an informal survey, asking his clients what they would do if they were given $5,000 today, no questions asked. The vast majority -- between 80% and 90% -- told Nolte that they'd save it or use it to pay down debt.
Other evidence, anecdotal and otherwise, suggests that the retail masses have started, tentatively, to move back toward stocks.
"I think investors are beginning to show an appetite for equity investments," says Richard Milton, of MainStreet Advisors, a boutique shop that counsels the trust departments of community banks around the country. But, he admits, "they're deciding to put a small portion of their money to work having probably missed a bulk of this rally."
Similarly, Paul Mendelsohn, the chief investment strategist ofWindham Financial, which primarily advises institutions, says he's been approached of late by individual investors looking for him to put their money to work in stocks. So far, he's declined to take them on as clients.
"I've said to them, 'Give it some time,'" Mendelsohn says. "Because if you go with us, your money is going to be in cash, because I'm not going in at these levels.'"
Once again, the discussion comes back to the old dichotomies: smart money vs. dumb. Pro vs. amateur. Retail investors coming into stocks now might pump the market higher over the short term, Mendelsohn says, "but where were they before? Where were they when
were in the market, when the S&P was at 700, 800, 900?"
As for that small businessman from Pittsburgh who traded heavily in options until his account was gutted in the crash, he began stepping up the riskiness of his trading again a few weeks ago.
Recently, with his risk appetite recharged, he has sold some September 90 puts on
. He has sold some calls on
. He talks about the trades with relish, but when the conversation drifts toward the macro, he indicates that he's been at least a little conflicted of late as well. His risk his appetite might not be so robust after all.
If the small investor is getting back in, he's thinking of getting out - because, he says, the small investor is usually wrong.
Written by Scott Eden in New York
Scott Eden has covered business -- both large and small -- for more than a decade. Prior to joining TheStreet.com, he worked as a features reporter for Dealmaker and Trader Monthly magazines. Before that, he wrote for the Chicago Reader, that city's weekly paper. Early in his career, he was a staff reporter at the Dow Jones News Service. His reporting has appeared in The Wall Street Journal, Men's Journal, the St. Petersburg (Fla.) Times, and the Believer magazine, among other publications. He's also the author of Touchdown Jesus (Simon & Schuster, 2005), a nonfiction book about Notre Dame football fans and the business and politics of big-time college sports. He has degrees from Notre Dame and Washington University in St. Louis.