Congress defriends Facebook, likely to further foul up IPOs--Part 1

The WSJ reports that:

A bipartisan group of lawmakers called on regulators to overhaul the way initial public offerings are conducted, concerned that last month's flubbed stock sale by FacebookInc. FB +0.47% shows the current system unfairly punishes small investors. ...

... the Democratic chairman of a subcommittee of the Senate Banking Committee said regulatory changes are needed to bolster investor confidence sapped by Facebook's botched debut.

"The perception today, and perhaps in too many cases the reality, is that the retail investor comes in at a disadvantage" in IPOs, said Sen. Jack Reed (D., R.I.), in an interview with The Wall Street Journal after the subcommittee held a hearing on this issue.

I'll post in a bit about the merits for further IPO regulation. Right now, however, I want to raise a fundamental question of whether the securities laws ought to continue trying to encourage retail investors in their delusional belief they will ever be anything other than small fry on which the big fish prey.

It makes no sense whatsoever for retail investors to be anything other than entirely passive. 

In The Random Walk Guide To Investing, economist Burton Malkiel explains in layman-accessible terms that no one systematically earns positive abnormal returns from trading in securities; in other words, over time nobody outperforms the market. Even professionally-managed mutual funds may outperform the market in 1 year, but they may falter in another. Once adjustment is made for risks, every reputable empirical study finds that mutual funds generally don't outperform the market over time.

What Malkiel wants retail investors to do--and what the economics of investing teach is correct--is to put their money in low-fee, low-expense, passively managed index funds and then walk away. Just walk away and let the power of passive management do the rest.

As the Guardian recently summarized Malkiel's message:

Markets are, broadly speaking, efficient. You can't beat them, so fire your financial adviser and put your money into index funds. These are unburdened by investment management costs, so they will always outperform the average active fund. Build an asset allocation model that suits your age and risk profile, then diligently put money in every month until you retire. Annually rebalance your portfolio – selling what's gone up, and buying what's gone down. And that's about it, really. Oh, and don't forget China.

When Congress and the SEC seek to "protect" the ability of retail investors to invest in things like hot IPO stocks, they are thus doing investors a huge disservice.