- Successful stock picking requires you to spend time researching companies and staying on top of market news.
- The average investor doesn't even come close to beating the market.
- For most, an index fund will provide higher returns and take far less time.
Stock picking is fun, but more passive investing is often the better choice.
When I first started investing, I loved picking stocks. I chose everything in my portfolio, I occasionally dabbled in options trading, and it went reasonably well for me. I made money on some investments and didn't have any big losses.
Even though I enjoyed it, I gradually moved away from stock picking. To simplify things, I started investing in an index fund with Vanguard. At first, I split my money between that and my stock picks. But nowadays, I rarely venture into individual stocks anymore. Here's what changed my mind, and why you should carefully consider if stock picking is worth your while.
Stock picking is a serious time commitment
As the band Linkin Park once put it, time is a valuable thing. And picking stocks tends to take up a lot of it.
To find good companies to invest in, you'll need to spend time researching them and figuring out which ones look like good values for your brokerage account. Without research, you're pretty much taking shots in the dark, and you might as well be gambling.
In my case, I found that I was spending at least a few hours per week reading the latest stock news and trying to keep up with the market. And that's probably a conservative estimate. It wasn't a waste of time, as I liked doing it. But the goal was making money, and I realized that on a per-hour basis, I was making much more by working than picking stocks.
If you pick stocks often, I'd recommend keeping track of your time and your returns to see how much you make per hour. You could find that after taking the value of your time into account, you're not getting much of a return. Even if you're coming out ahead, there's another important factor to consider.
Most investors don't beat the market
For stock picking to be worth it, you don't just need to earn a positive return. You need to beat the market, and the data shows that investors are rarely good at this. To show how poorly it often goes, here's some data collected by JP Morgan on average annual returns from 2001 to 2020:
- The S&P 500 had an average annual return of 7.5%.
- A basic portfolio with 60% stocks and 40% bonds had an average annual return of 6.4%.
- The average investor had an average annual return of 2.9%.
So, investors who were spending time researching and working hard to pick stocks earned 2.9% per year, on average. Investors who simply stuck their money in an S&P 500 index fund earned 7.5%.
Even the experts typically fail to beat the market. Legendary investor Warren Buffett once made a bet that an index fund could beat hedge funds managed by professional investors. The bet period was 2008 until 2018, and the final score wasn't even close. Buffett's S&P 500 index fund more than tripled the average return of five hedge funds.
Passive investing is easier and offers better returns
When I really thought about it, I realized that investing in a quality index fund was the best way to invest in stocks for me. Since it invests in so many companies, I get a diversified portfolio with a single investment. It provides competitive returns, and it's completely hands off. All I do is buy more every month.
Stock picking just didn't make sense financially. Investors are often confident in their abilities, but it's important to be realistic, too. It's extremely difficult to beat the market on a consistent basis. If it's highly unlikely that I'll outdo an index fund, I'll just spend two minutes per month buying that instead of hours picking stocks.
In fairness, some people out there do beat the market. If you enjoy stock picking and want to keep at it, there's nothing wrong with that. But if your goal is to get the best returns for the least effort, keep it simple and put your money in an index fund.
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