MarketPlus® Investing Helps Investors Avoid These Common and Costly Pitfalls
By SJS President Kevin Kelly, CFA
You’d think that anyone who wanted to be a highly successful investor could achieve that goal on his or her own, given all the access to financial information and the speed of information we enjoy today. After all, the Internet, television, radio, magazines—just about everywhere you turn—provide round-the-clock access to anyone who’s interested.
Why then does the 2014 edition of the “Quantitative Analysis of Investor Behavior” performed by DALBAR, a financial services research firm, confirm that individual investors’ portfolio performance trails overall market performance? And not just for one year, but for 30 years running. In 2013 alone, with the S&P 500 up about 32%, the average do-it-yourself mutual fund investor underperformed with an average 25.5% return.* Over the 30 years ending December 2013, the S&P 500 gained 11% annually while the average individual investor earned less than 4% annually. According to the AAII Journal, in some years the gap between the benchmark performance and the average individual investor portfolio was as high as 10%. (Steven Sears, The American Association of Individual Investors Journal, July 2012.)
Why the disparity? And why isn’t the gap smaller now that we have such easy access to information? Through our experience at SJS Investment Services helping clients invest through our time-tested process called MarketPlus Investing, we have discovered three main reasons why individual investors often have difficulty investing on their own:
Timing the Market
Individual investors often believe the best way to drive increased performance is to try to time the market. They watch the trends and attempt to get in when the market is low and get out when the market is high, then wait for it to drop again before getting back in. Our experience tells us this is a fool’s errand, and numerous studies prove it. Marlena Lee, in her paper titled “Stock Returns Over Business Market Cycles,” published in March 2009, demonstrates why trying to stay out of harm’s way through market timing is a less than optimal strategy. She calls it a “costly decision.”
Stock Picking
Individual investors sometimes try to pick one, two, or a handful of stocks that they think are going to out perform the market. And given the thousands of securities that are out there, the odds in an individual investor’s favor are pretty slim, particularly over time. MarketPlus Investing is a science-based process built on the Nobel Prize-winning work of Eugene F. Fama that places portfolio design at the center. Owning various asset classes instead of trying to pick stocks may minimize risk. And based on an investor’s financial goals, the focus is on designing a portfolio diversified across and within asset classes, not individual stocks.
Chasing Performance
Individual investors often choose an investment based on performance and with the assumption that that performance will continue. They, in essence, look to the past success of the fund manager and hope that the manager will have the same success in the future. In the study “Luck vs. Skill in the Cross Section of Mutual Fund Returns,” in the October 2010 issue of the Journal of Finance, the authors, Eugene F. Fama and Kenneth R. French, showed that active fund managers cannot accurately speculate on where individual prices are going to go and systematically beat the market. We couldn’t agree more. Our experience with new clients has been that they have rarely been rewarded by chasing performance.
At the root of these common mistakes that many individual investors make is the simple fact that too many investment decisions are made emotionally, without a process and in the absence of discipline. That’s perhaps the biggest asset we bring to our clients. At SJS Investment Services, we like building relationships with our clients and getting to know them, but when it comes to investing on their behalf, we have a process and a discipline. Our clients hire us to help guide their futures. But they really hire us to stick to our process, maintain discipline and be there for them. And it’s a role we’re equipped and honored to take on.
Important Disclosure Information:
It is not possible to invest directly in an index.
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