Stock Pickers: This Market's Not for You

As we head into tomorrow morning's U.S. employment report for the month of February, the Dow Jones Industrials Average (DJINDICES: ^DJI  ) managed to put up at a third straight all-time (nominal) high, gaining 0.2%. The broader, market-cap weighted S&P 500 (SNPINDEX: ^GSPC  ) also rose 0.2%.

Somewhat surprisingly, perhaps, for the eve of a nonfarm payroll Friday, the VIX Index (VOLATILITYINDICES: ^VIX  ) , Wall Street's fear gauge, fell just 3.5%, to close just above 13 -- we are back down at ultra-low levels, once more. (The VIX is calculated from S&P 500 option prices and reflects investor expectations for stock market volatility over the coming thirty days.)

Stock pickers can't catch a break
CNBC.com's NetNet blog ran a piece yesterday afternoon titled
Sorry Stockpickers -- You're Still Getting Crushed. The thesis is that, despite the drop in correlation between stocks, stockpickers are still finding it hard to separate themselves from the herd (read: the index) and earn an excess return. The reason? Although correlations have fallen, so has volatility. As a result:

Just 37 percent [of active fund managers] are faring better than the basic indexes they compete against, according to data from JPMorgan Chase, while 63 percent are missing. A mere 7 percent are topping benchmarks by more than 2.5 percentage points.

If professionals are struggling, what are the odds of success for individual investors? Should they just take themselves out of the game and buy index mutual funds or ETFs instead? Here are a few things to think about, in any market:

First, unless you believe you have an edge that you can identify, you have absolutely no business picking stocks.

Second, individual investors do have at least one automatic advantage over professional investors (assuming they have the right temperament): their time horizon. Fund managers are scrutinized by investors on a quarterly, if not monthly basis, which is not an equity-appropriate time frame for assessing investment results. Consequently, fund managers behave in ways that are less-than-optimal to achieving long-term outperformance. That provides individuals who adopt the right time horizon with a massive advantage. Keep in mind, however, that professionals have one major advantage: Picking stocks is their full-time occupation. As such, I can't recommend doing battle with them if you're a pure hobbyist.

Getting back to the current market, is it bad for stock pickers? I would point to my second comment: It depends on your timeframe. For fund managers, who are assessed every quarter, the answer is "yes." For (proficient) individual investors, when stocks trade on factors other than their fundamentals, it represents an opportunity. Value -- and excess returns -- win out ... eventually.

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  • Report this Comment On March 08, 2013, at 1:04 AM, DrGoldin wrote:

    This advice does not square with my own experience. For too long, I followed this strategy, and invested in index funds. Strangely, I always ended up trailing the market at the end of the year. Now I pick stocks, and I beat the market consistently. I also learn a lot in the process.

  • Report this Comment On March 08, 2013, at 8:11 AM, TMFAleph1 wrote:

    @DrGoldin

    Long may it continue!

  • Report this Comment On March 08, 2013, at 1:29 PM, DrGoldin wrote:

    LOL ty!

  • Report this Comment On March 08, 2013, at 1:45 PM, reddingrunner wrote:

    I've been doing more picking and seeing better results (my old results weren't bad either). Generally a three month time frame. This week, for example (halfway thru Friday's market), up 3.77% vs 2.13% for my index (VTI). My watch list (stocks that just missed getting picked) is beating, even my sold stocks are beating (by a lesser amount). Still, the big questions remain: can I keep it up? what will happen when the bears come to town?

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