You Are Not A Good Investor

You probably think you are good at picking stocks (and investing in general).  I hate to be the bearer of bad news, but you are not.  In fact, you are terrible at investing.  Now, there may be a few of you that outperform, and part of that is due to luck, but I am speaking to the collective “you”.

The statistics back up his assentation.  DALBAR releases a yearly study called The Quantitative Analysis of Investor Behavior (QAIB) that compiles flow data of dollars into mutual funds.  They have found that the average investor underperforms the market by a mile – 4.32% per year in stocks and 5.56% per year in bonds! 

So why do most people think they are great investors?  Likely the same reason most people think they are better drivers than average, and are certainly better looking than average.  It is a built in behavioral bias floating around in our genetics passed down from our ancestors many years ago.

Don’t be too downtrodden; stock picking is hard, really, really, hard.  The basic odds are stacked against you.  My friends at Longboard Asset Management completed a study called The Capitalism Distribution that examined stock returns from the top 3000 stocks from 1983-2007.  They found that:

-39% of stocks were unprofitable investments.

-19% of stocks lost at least 75% of their value.

-64% of stocks underperformed the index.

-25% of stocks were responsible for all the market’s gains.

Simply picking a stock out of a hat means you have a 64% chance of underperforming a basic  index fund, and roughly a 40% chance of losing money! 

Not only is it hard to pick stocks, you are also up against the most talented investors in the world.

There is a famous saying in poker, “If you sit down at the table and don’t know who the fish is – you’re the fish.”  Most people who sit down at a poker table with a professional player will quickly lost all of their money.  While luck can have an influence in the short term, eventually the outcome is near certain.  Most individual investors do not know that they are the fish in the game known as Wall Street…

(Will update this post with a few more stats this weekend…)

Click to enlarge graph (Blackrock, via InvestaBullish)