If you're attempting to beat the stock market through individual stock picking, give up now! The simple fact of the matter is this: if beating the stock market was readily achievable, why aren't we all rich? For the vast majority of Fools, a regular contribution into an index tracker will give far greater long-term returns than individual stock picking ever will.
The Emotional Investor
For those selecting their own portfolio, the main culprit for any market underperformance is human nature. Forget the Efficient Market Hypothesis, what causes stock market misery for most Fools are their emotions: fear and greed. Of the two, greed is by far the more dangerous in the stock market.
Take last year's dotcom bubble. Thousands of Fools must have applied for shares in interactive investor international (LSE: IIN) or Lastminute.com (LSE: LMC) at their respective flotations. Indeed, at the peak, the message boards for both interactive investor and lastminute were running at some 350 new posts a day. That gives a real indication of the widespread investment irrationality that most private investors inherently exhibit.
But don't think it's just the inexperienced novice investors that let their emotions get the better of them. Both co-founders of The Motley Fool UK joined the Internet bandwagon at the top, the evidence for all to see here and here.
And if those who represent Foolishness can't keep their investment emotions and discipline in order, a necessity if you want to beat the market, what chance has the ordinary Fool? Very little, I'd say.
Overconfidence
Perhaps not to the scale of this message or this poll, most investors do display unjustified overconfidence in their stock picking abilities. Again, this is all down to human nature. It stands to reason that not every stock picking investor can beat the market over the long-term. Yet none will believe they're doomed for ever-lasting underperformance. Call it the arrogance of stock picking.
A feature from the US Fool described the perils of investor overconfidence, listing several reasons why Fools fail to beat the markets. From the long list contained within the article, these are probably the main reasons to blame for individual stock picking woe.
* Reluctance to admit mistakes;
* Excessive aversion to loss;
* Confusing familiarity with knowledge;
* Believing that their investment success is due to their wisdom rather than a rising market, and;
* A tendency to seek only information that confirms their initial opinion or decision.
All must look familiar to most Fools. The final two have been often found on Foolish discussion boards.
Time, effort and understanding
Okay. Let's assume you've gained control over your investment hormones and overdosed on humility. All you need now is plenty of dedication and elbow grease to put you in a position to beat the market. But this is another stumbling block for wannabee stock pickers.
To be a successful investor, a fair amount of homework has to be done. First off, there's plenty to learn on the tricky subject of accounting. There's also much to absorb on the subjective topic of valuation too. Of course, then you have to get up to speed with different industries and the companies themselves. Keeping tabs on a variety of companies and their products is no mean task. Plenty of time and research involved here, especially for the ordinary Fool with limited "inside" industry knowledge or contacts.
Trouble is, investing is a competitive activity. There are thousands of other full-time investors who are all digging for the latest information on your company's potential too. In this respect, the greater resources of the large investment institutions make life difficult for ordinary Fools. Only in relatively smaller and inevitably riskier companies can the average private investor have a real "information edge" over the market.
Foolish portfolios
And even with plenty of time, effort and experience to hand, there's no guarantee you'll outperform anyway. Numerous studies have shown that around 80% of full-time professional fund managers fail to beat the stock market over the long term.
But perhaps the most damning evidence highlighting dreary Foolish stock picking comes from our own real money portfolios. After three years in operation, the Qualiport has managed to shrink its worth by 10%, while the Rule Shaker has managed to lose 30% in just over a year. Both of these portfolios are managed by full-time TMF writers, each of whom put in a lot of effort and research into their stock picks. Yet the end results have been dreadful.
Of the Foolish stock-picking portfolios, only the mechanically-based Beat the Footsie is currently showing any outperformance. However, it has to be noted that this portfolio has badly underperformed during most of its life, only a recent surge has spared the blushes.
Most Fools would have given up long ago on the BTF, despairing at the portfolio's dismal performance throughout most of 2000. In fact, during the BTF's darkest hour, there were calls from Fools to Kill the BTF, with the normally unemotional TMFPyad contemplating throwing in the towel at one point. Hardly encouragement for Fools to go out and "Beat the Footsie" themselves!
Extreme investing
Of course, there are a handful of successful stock pickers in Fooldom that can help to show the way for private investors. Unfortunately, it appears you have to go to the extremes of the stock market to get any glimmer of market-beating results.
On the one hand, TMFPyad's own deep value investing style has produced stunning returns in both 1999 and 2000. But how many Fools would feel comfortable "betting the farm" on one company at a time, especially in one that typically has a ropey underlying business?
And on the other hand, we have David Gardner's Rule Breaker, a portfolio that tries to spot the winners from the "industries of tomorrow" before the market at large catches on. The Rule Breaker's outperformance has been largely based on the 1994 purchase of America Online (NYSE: AOL). However, the portfolio's more recent picks, notably concerning genomics, haven't fared so well. Can Fools easily replicate Gardner's strategy? Not unless they spot the next "technical revolution" on the cusp of next raging bull market, I think.
Summary
Trying your hand at individual stock picking is sure-fire way to lose money. As we've seen with the "Tech Bubble of 2000", and evidenced on the Foolish discussion boards, most investors let irrational emotions and overconfidence get involved in their stock selections.
Assuming you can control your human urges, large amounts of time and effort are also required to develop the necessary expertise. And even then, no guarantees are given -- most managed funds, the Qualiport and the Rule Shaker will testify to that. And unless you're prepared to adopt a very high-risk investing strategy that involves investing in troubled or unproven businesses, which again will offer no guarantee of outperformance, the vast majority of Fools would be better off with an index tracker.
To finish, just ask yourself this question again: If beating the stock market was readily achievable, why aren't we all rich? Vote No!
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