Ulli at The Wall Street Bully recently had a post in which he took on the question of “smart money” vs. “dumb money”. It started with the question:
Could you explain the difference between smart money and dumb money?
His response was:
To me, smart money is represented by those investors/advisors who work with an investment discipline, which supports clearly defined entry and exit points. At the same time, they are in control of their ego by seeing the need to take small losses from time to time in order to avoid the big ones.
Dumb money is the just opposite in that those investors are relying more on hope than anything else by not having a clear buy/sell strategy or any idea when to get out of a position. That, unfortunately, is the mode of operation by the majority of the investing public.
Now this definition is a perfectly acceptable one. I don’t think, however, that it quite addresses what most folks in the markets or media are talking about when they use those terms. I think “smart money” is generally meant to imply those with more information, and probably more experience as well. It means those who actually see and understand what”s happening as opposed to those who are just reacting blindly to things.
The term “smart money” is often used in the context of “follow the smart money”, as in do what the folks who best understand things are doing. Of course even those in the know get the trade or investment wrong, and sometimes the market just doesn’t comply with that it should do. In other words, just because you’re the smart money doesn”t automatically mean you make money.
While being the “dumb money” (those who are trading based on emotion) obviously isn’t the way to go, I’m not inclined to agree with the idea that one should follow the smart money either. Following blindly along is foolish either way. Better to try to understand what the smart money is seeing and thinking so you can learn to be the smart money in your own right.
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About the Author
John Forman, author of this blog, has traded for more than 20 years, is a professional market analyst, and authored The Essentials of Trading. He is an active participant in trading forums, consults for trading related businesses, as published literally dozens of trading articles, and has been quoted in a number of books and in the media.
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