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Here’s how you really can buy shares to beat the market

Q: How many financial commentators does it take to change a light bulb?

A: Why change it when all available information about the darkness is already factored into share prices?

There’s a bit of folk wisdom that says there’s no way to beat the market, because by the time you learn any new information, everyone else knows it and you can’t get ahead.

Nonsense

I say it’s nonsense, on two levels. It lumps a whole sequence of necessary conditions into one wise-sounding pronouncement:

  1. All information is quickly distributed
  2. Everyone responds rationally to all information
  3. Everyone has the same opinion of all information

I’ll accept that the first condition is sufficiently true to be treated as universal, but that’s where it stops.

As for everyone always responding rationally and having the same opinion, it’s as plain as the nose on your face that we don’t. We have a century and more of evidence that investors frequently overreact emotionally. People see a share price soaring and buy regardless of fundamentals, or sell just because it’s falling.

And even those steely unemotional folk often have wildly different opinions — the only reason you can buy a share is because someone else thinks it’s correct to sell it.

Economics

On a larger scale, it’s all economics really, and we know how inaccurate that can be. You must surely have heard the old joke that suggests if you ask 10 economists, you’ll get 20 different opinions. There are so many variables affecting economic issues that there really aren’t any consistently accurate models, and what we have can only offer general guidance.

What does the race for the Conservative Party leadership say about current share prices? What will be the correct share price for Pearson should Boris Johnson win? How about Jeremy Hunt, how should the Topps Tiles share price be adjusted should he win?

What about Brexit, Donald Trump, China, Iran, oil prices…? Are we supposed to believe that the experts can correctly identify how every one of those factors, together with millions of others, affects every individual share price and always get those prices right?

Short term

My second objection is actually the biggest, and it’s that the idea that succeeding in investment is anything to do with quick access to information in the first place. It simply is not.

It strikes me that the whole thing is based on the idea of short-term trading where, if you did happen to learn something critical a few hours before everyone else, you could make a short-term gain. But short-term trading is a mug’s game, and an almost guaranteed losing strategy.

Long term

No, long-term investing, based on buying shares in top quality companies and holding them for years, doesn’t need priority access to information. And you don’t need to find bargains that nobody else knows about. The very best shares are ones that almost everyone agrees are great, and shareholders carry on making good money from them even though everyone knows everything about them.

If you follow such a strategy, I reckon you’ll come out well ahead of the gamblers trying to outguess the market based on the latest news.

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Alan Oscroft has no position in any of the shares mentioned. The Motley Fool UK has recommended Pearson. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.