Stock picking is notoriously difficult, with almost no investors able to develop portfolios that can outperform the market over the long term, but few may realize just how hard it is to find a winner.
While the overall stock market tends to rise over the long term, posting better gains than both bonds and cash, albeit with greater volatility, the bulk of this move is driven by a few names that do very well, essentially lifting the overall market. The average stock, when taken individually, not only underperforms when compared to the overall market, but also may even lose out to Treasurys.
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That assessment comes care of Alpha Architect, an investment firm that looked at research by Hendrik Bessembinder, a professor at Arizona State University. According to the data, which spanned the time period between 1926 and 2015, only 47.7% of all monthly stock returns were larger than the one-month Treasury rate. A mere 42.1% of stocks beat the return of T-bills.
The results are just as bad when compared to the broader stock market. According to Alpha’s own research, which looked at the period between 2007 and 2014, around 54% of individual stocks underperformed the benchmark index. Only one in 10 stocks posted a return that is twice as strong as the overall market.
Alpha also looked at the time period between 1983 and 2006, which was an even tougher market for stock pickers. Only 37% of individual stocks outperformed the benchmark over that period.
“So while it appears that the more recent time period was better for stock pickers, the odds were still against buying an individual stock,” wrote Wesley Gray, chief executive officer of Alpha Architect. “An additional concern when buying one stock is that the investor takes on a lot of idiosyncratic risk. This can lead to larger drawdowns if there is bad news about your one stock portfolio.”
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Obviously investors don’t pick their stocks at random, research can improve a trader’s odds, and just because a stock underperforms the market doesn’t mean it will lose money. But growing awareness of the difficulty of stock picking has increasingly pushed investors to passive investing, where they basically hold the overall index. Data have repeatedly shown that investing in the broader market not only produces better gains than an actively managed portfolio—where the holdings are instead selected by an individual or team—but also such funds cost less in terms of fees.
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And of course, a broad-market fund will ensure that an investor gets exposure to the select names that do most of the heavy lifting. According to Bessembinder’s data, a mere 10 companies account for 16.26% of all the wealth that has been created in the stock market. As in, ever.
Oil giant Exxon Mobil leads on the score, accounting for 2.96% of the market wealth ever created. The stock is followed by Apple, General Electric, Microsoft, andIBM. These five account for more than 10% of the wealth ever created, and all five are Dow components.
That the blue-chip index is full of such bellwethers is one of the reasons it is arguably the best active fund ever developed.
This article originally appeared on Marketwatch.
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