Think about it: If a hot-shot newsletter publisher really had some inside secret to making a lot of money, wouldn’t they just keep the secret, use it to run a hedge fund and get filthy rich? Why sell it to you cheap? After all, that’s what today’s quants do with their behavioral finance and neuroeconomic “secrets!” Forget all the hyped promises of high returns on the newsletter’s model portfolios, after taxes and trading costs, research proves you’ll lose money and do better with a simple, well-diversified passive portfolio of no more than eleven no-load index funds.

Should financial newsletters be regulated by the SEC? You bet! I knew it when I was publishing one, and I became even more convinced after reviewing an email promo for one in the depths of the last bear. Maybe there are a few good newsletter publishers. But this one particular promotion illustrated the dangers of publishing unregulated investment advice.

Everyone knows financial newsletters are selling investment “advice.” That’s their business—advice! They offer advice just like financial advisers, fund managers, brokers and investment bankers. But… investors have zero protection from these newsletter snake-oils salesmen. Case in point, I got an email from Michael Murphy hyping the “Human Genome Bonanza” during the 2003 bear market. It was a promo for his then brand new newsletter, Biotech Investing. It read like a supermarket tabloid, delivered by a carnival barker.

Laadies & Geeentlemen, the “Human Genome Bonanza!!”

The imagery of a carnival barker and a circus ring-master at P.T Barnum’s “Greatest Show on Earth” was vivid when I opened that email ad. As you read this opening headline act, imagine music at a three-ring circus tent, the smell of elephants, and visualize a ring-master introducing the extravaganza! Listen to the sales pitch:

“More revolutionary than the invention of the printing press … More world-shattering than the advent of space travel … And far more profitable than the rise of computers and the Internet put together … Here’s your invitation to grow up to 8 times richer this year and every year, with little-known stocks set to benefit first from today’s great Human Genome Bonanza … Right now can name 8 little-known biotech firms that are going to use the human genome project to become the richest companies on the planet.”

And those were just the opening promises. Murphy defended these exaggerations because he believes genomics will increase the human life span to 125 years. He told me, however, “the genome story will take a decade to play out.” (Just a decade!?) In the interim, short-term traders using his newsletter will get “8 times richer this year and every year.” However, long-term fund investors may not be so lucky.

Yes, newsletters offer “advice,” but still no SEC regulation

Where is the SEC when you need them? Yes, I know, a 1985 Supreme Court decision limits SEC regulation of newsletters—on free speech grounds no less—just to show you how bizarre that court can get. But the truth is, since 1985 the SEC, Congress and industry associations have tried to regulate just about every other player in today’s every-changing, crazy-making financial world, so maybe it’s time to review this dumb ruling. Fund companies ads are regulated to avoid extremes. Financial advisers have professional standards. And Wall Street’s investment bankers are at least a bit more subtle and classy when they hustle you.

Newsletters need some restraints, on copy like this, especially since you can get several newsletters covering the same material for $100-$300. Except Murphy‘s promo was over-the-top: “Truly a once-in-a-lifetime opportunity. Please do not let it pass you by … one-year membership in my Biotech Investing service is $2,295—a screaming bargain when you realize that it’s turning $25,000 invested into over $200,000 per year.” Wow, that sure sounds more like a “guarantee” than a “bargain” to me, or more accurately, a “screaming guarantee” to get “8 times richer this year and every year.”

But, why sell “the secret,” when you can become a billionaire?

Every time I see an “screaming” newsletter promo like this, I can’t help wondering why anyone would ever sell such valuable secrets about a “once-in-a-lifetime opportunity” that helps other people get “8 times richer this year” simply by picking eight “little-known” biotechs that will become the “richest companies on the planet.”

Maybe I’m just selfish, or missing something, but if I had that kind of secret proprietary information I wouldn’t sell it to anyone! I’d keep it secret and start the “Millionaires Biotech Hedge Fund” or “Billionaires Private Equity Deal,” raise a couple hundred million, watch it grow eight-times ever year and become a billionaire. Why struggle as a small-time newsletter publisher? Why not get filthy rich on your secrets, like Warren Buffett! Murphy’s answer: “We’re in the newsletter business and we can also own them in the fund anyway.” But why not focus 100% of your time on making the big money? 

Do newsletter “promises” translate into fund profits?

To his credit, Murphy is also a doer. He did manage a private hedge fund. And his Genome Bonanza promo is loaded with claims of his short-term trading successes: “Our average trade has handed us a 70% profit in just over 4 months!” Murphy explained that for me: “Yes, that says if you make 4 straight trades, each gaining 70%, you will go from $25,000 to $208,803 in a year.” Unfortunately, all this sounds too good to be true. Why? First, the track record of his existing newsletters is “well below the market,” says Mark Hulbert, whose Hulbert Financial Digest tracks the performance of the major financial newsletters on MarketWatch.com.

A few years ago Hulbert told me that the adjusted 1995-2000 performance of the Med-Tech Model Portfolio in Murphy’s 16-year-old California Technology Stock Letter was only 5 percent annually leading up to the dotcom peak, 10 percent less than the passive Wilshire 5000 index. Hulbert wasn’t tracking the Biotech Investing newsletter at that time, but today he is tracking Murphy’s New World Investor newsletter, into which the biotech newsletter was eventually folded.

Newsletter promises fail to increase fund returns

Moreover, from an investor’s perspective, Murphy’s “a once-in-a-lifetime” stock-pickings were not trickling down to the fund he managed. Murphy managed three mutual funds, including the Murphy New World Biotech Fund. At that time in mid-2001, Morningstar rated this little $12 million fund just 2-stars, in part because the fund has a 5-year average of only 3.3 percent, about 12 percent less than the S&P 500. At the same time, the overall health care sector was averaging 14.3 percent—11 percent higher than Murphy’s fund.

While Murphy touts his ability to pick “little-known biotech firms” for his newsletter subscribers, his biotech fund investors apparently weren’t benefiting from the same talent. Arguably, the two are different animals—one for short-term speculators, and other for long-term fund investors. But the facts were undeniable, the same stock-picker was both publishing the newsletter and managing the funds. To his credit, Murphy’s fund did score a big homerun in 2000 with a 64 percent return, which probably gave him the idea to launch the newsletter. However, the fund was down 31 percent in 2001, more than twice the average health sector fund, about the time his email hit my inbox.

Moreover, if his biotech picks were the “richest companies on the planet,” you have to ask—why was 43 percent of his biotech portfolio invested in indexed Merrill Lynch Biotech HOLDRs and Firstar bonds earlier that year. That’s hardly what you’d call “innovative” stock-picking that investors should expect after reading the “Genomes Bonanza” promo. Explanation? The fund “got cautious and was in cash from time to time while biotech stocks were moving up.” But shouldn’t you be “fully invested” when stocks are moving up, not conservatively hedging your bets? Moreover, at the time mutual fund investors could get first-class biotech stock-picking advice for a lot less than $2,295 a year, both from other financial newsletters and also other bio-tech and healthcare funds what were out-performing their sector averages.

Forget regulation, newsletters still offer bogus advice

At a time when the ethical behavior of so-called independent securities analysts was a major issue confronting the financial industry, you’d have thought it was also a perfect time to reconsider regulation of financial newsletters. Congress, the SEC, various professional associations and watchdog agencies were demanding a higher standard of ethical behavior from all players in the “advice” game. By looking the other way and not holding financial newsletters to the same high standards—especially if they’re also registered investment adviser or hedge fund manager, we are just condoning more behavior that takes advantage of investors.

Fortunately, the SEC has gone after some of the more flagrant violations in recent years, where the newsletter publisher was also a money manager using the letter as a marketing too. But they can still play their game if savvy attorneys create the illusion of an “arms length” relationship. So don’t hold your breath, this has never been a high priority for Congress or the SEC. So financial newsletters will continue using the “free speech” argument to hustle naïve, gullible investors with outrageous pitches like: “More world-shattering than the advent of space travel!”

One final note: If you really want an investment newsletter, first do some comparive performance research at an outfit like the Hulbert Financial Digest, which tracks 180 newsletters and 500 portfolios, and has been around for a couple decades.

FirstPubDate: Jul’01