Mutual Funds for the Utterly Confused

This is it folks. We begin the book at page one. Chapter one: The Great Investor Equalizer relishes the opportunity to begin our discussion in the throes of an economic downturn. We are not thrilled by it but the chance to talk about a bear market while one is in existences is a rare chance indeed.

Mutual funds are, hands down, the best place to be during - as well as before and after - such events. Because the book, Mutual Funds for the Utterly Confused offers so many analogies, this blog will offer some deeper insight beyond what will be published in December, 2008.

We often hear the word bubble when the world of finance is discussed.

There are good reasons for this and for the numerous terms that relate to the physics of surface tension, liquids and tension. Much of this knowledge that is lifted without reference is due to the work of Italian physicist Carlo Marangoni.

Bubbles are the result of liquid with a certain surface tension, creating elasticity. But their life is fleetingly short. But pure liquid bubbles are short-lived. Add soap to the mix and surface actually stabilizes, albeit for a short time. Prior to Marangoni’s discovery, the belief was that soap added to water strengthened the liquid. What the soap did was dilute the surface concentration and by doing so, it increased the tension of the surface.

The surface of a bubble, caused by this increase in surface tension, forms a sphere, which actually has the smallest possible surface area. Two bubbles can merge, forming an object, also spherical, with the smallest possible surface area.

As we open the book, I begin the discussion with bubbles. Ironically timed, the stock market bubble in the early part of this decade – which was not well named; it more like a balloon filled with air whose contents were gradually, okay, quickly, allowed to escape – which led to the housing bubble. Which is not much of a bubble either but a slow moving train wreck. But the moniker of bubble stuck.

In the world of mutual funds, bubbles have even less meaning. The Dow Jones Industrial Averages mean nothing to mutual fund investors. I mention this because mutual fund investors need to pay attention to the much longer-range reasons for buying a fund. Even as the markets have reeled from one bad batch of news after another – and as I write this, banks are failing, Wall Street is transforming itself and begging for government intervention – read: taxpayer bailout – and the chances of a recession are all but a given with only its length and breadth as unknowns, we are simply setting ourselves up for another bubble in the future.

The surface tension of the markets is not very strong at the moment. Mutual fund investors should not care. Bold words, I realize. But if the fund manager you have chosen is going to earn her/his/their/its money, the longer the term the better the chances of profits falling squarely back where they belong. In your fund and in your pocket.

Next up: Mexican bubbles past.