Picking stocks is not an exercise in futility. With patience and persistence, you can not only beat indexes like the S&P 500 -- you can beat the pros on Wall Street, as well. In fact, you -- the individual investor -- have an advantage over those slick professionals. As valuation luminary Dr. Aswath Damodaran told Fool co-founder Tom Gardner in a recent interview, "There are enough openings in the market that somebody who really understands what they're doing and knows their strengths and weaknesses can take advantage."
The individual investor's advantages
The biggest competitive advantage that individual investors have is that we can afford to hold stocks for five years or more. Most Wall Street pros can't do that. As Dr. Damodaran said, "They have too many competitive pressures forcing them to be short term."
How does this help you? Master investor Ben Graham put it best when he said that in the short term the market is a voting machine; in the long term it is a weighing machine. In other words, the market becomes much more predictable as your time frame lengthens. By being able to hold great stocks without needing to gloss up performance for the sake of advertising, you reduce fees and taxes and let the market's historical lessons go to work for your portfolio.
Next, your personal portfolio has no constraints other than your own liquidity. Unlike many funds that set market cap, style, or country constraints, you can invest wherever you smell opportunity. It's OK to lose to the market for a few months (or even years) if you've set yourself up to profit handsomely for the next 10.
For evidence of your advantage, consider the plight of spin-offs in the market. A spin-off is when a large company creates a new, independent company from an existing division. McDonald's
These large, widely held firms are spinning off smaller, lesser-known quantities, so prices of spin-offs tend to be depressed in the short term. They are sold by institutions that cannot hold the new shares because of market cap or other constraints -- and this creates opportunity.
Take, for example, UAP Holding
The Foolish bottom line
Spin-offs are just one example of how enterprising individual investors have an advantage over Wall Street professionals. But as Dr. Damodaran says, "This is a very tough game to win. It requires a lot of homework."
Fool co-founders David and Tom Gardner have been helping Motley Fool Stock Advisor subscribers do this kind of homework for the past three years. And since the depths of the bear market, they have earned 57% returns -- a full 37 percentage points ahead of what you would have earned investing in an S&P 500 index fund. Click here to take a 30-day free trial and gain immediate access to all of their research, writings, and to the ongoing conversations at the newsletter's dedicated discussion boards.