Some people believe that if they just had enough
time and information, they could analyze stocks
and be able to consistently choose those that
would outperform the market. Here’s why that
notion is a fallacy.   

Anyone who has ever tried to pick stocks for their
portfolio or for a living knows how challenging it can
be to outperform the market. It is virtually impossible
in the long run. Yet there are those who try to make
selections, and are even encouraged by some
“experts”, with advice such pick “stocks that you know”
and similar advice.

The short answer is that you can’t out perform the
market. As an individual, it is barely worth the effort to
try and pick stocks. Why is this?

First, you don’t have the best information. Yes, you
can dig up information by reading a firm’s annual
report, probing magazine articles on the latest
developments and searching the Internet for future
prospects of company.  Are you really learning
anything by doing this that hasn’t been done a
hundred times before? Can you really compete with
the dozens of professional analysts with full staffs and
resources that are doing this and are privy to much
more information? This information may or may not be
available to the general public. Of course, even these
professionals cannot consistently beat the market in
the long run. Many studies have shown that only a tiny
percent of financial/portfolio managers perform better
than the market for similar risk securities in the long
term, after taking into account transaction costs. And
it may be pure luck for this small group. Now, if they
can’t do it, and they have all the resources in the
world, why would you be able to?

I’m not trying to discourage anyone from becoming
educated concerning their finances, learning about
financial markets, or making the best choices for their
investments. Far from it, that is one of the primary
goals of this website, But
we must be aware of what we can control and what
we can’t. We must choose to use our resources in the
way where they can have the most productive impact.

And of course, market professionals serve a valid
purpose, as all market participants help to seek and
find information that will be incorporated into the
market price of the stock. But each professional’s
opinion is just one small vote in formation of a price
for a given stock.  

Think of all the factors you cannot predict that can
influence the value of a security. Do you really know
the innovations that competitors will come up with?  
Do you know whether other technologies will
significantly displace the industry in ten years? Do you
know what the government’s fiscal and financial
policies will be in the future and how they will affect the
entire economy?   

Many people are fooled by success. They’ve picked a
stock and it has gone up. They assume there is a
connection between their analysis and the result,
when in reality there is just a random connection. Even
some professionals seemed to be fooled by their own
or others success. Maybe they’ve picked a downturn
or upturn in the market. Maybe they predicted the
mortgage crisis in 2006. The experts who predicted
this may now be chased around by the financial
media as if they were financial sages. Of course,
many experts were warning of a mortgage problem
since at least the year 2000. If you had made a move
based on this in 2000 you would have been broke by
2006. This illustrates the additional factor of timing,
certainly critical to any investment decision, even if
you knew absolutely everything else – but which is
almost impossible to know.      

There is no shortage of experts that will predict the
future. Some show proper caution in their
prognostications. Others are brimming with
confidence. If they are too confident, that’s a sure
warning sign to you. As they don’t know what their own
limitations are, or worse, have something to gain in
convincing you regardless of the investment outcome.  

What does this mean? What’s the solution? The key
is become financially educated about the market, your
goals, investment funds, and the financial
professionals with which you deal. You must know
what your objectives are, and what your risk profile is.
Of course you should still learn all you can about
different kinds of companies and what their growth
prospects are. But this knowledge will help you more
to know the reasonableness or not of claims you hear,
rather for you to make a stock pick – to evaluate the
market, rather than to beat it.  

Learn about the different risk classes in the market,
such as growth stock vs. income stocks, for example.
Learn the importance of lowering risk as you grow
older. Learn the track record and investment
philosophy of funds you would consider investing in.
As they say, “Past performance is not an indication or
guarantee of future performance”. But you shouldn’t
ignore. The fund should have performed close to
similar risk market indices over the same period of
time. But understanding their objectives is even more
important than buying in to what their investment
performance will be. Matching your objectives with
those funds is most important. In the long run, proper
diversification is more important than having the top
stock of the month.

For more information, please find additional
information on my
Investments page.

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