The siren of individual stocks has drawn me in for decades since I entered the brokerage business thirty-plus years ago. I envisioned becoming the next Warren Buffett, Peter Lynch, or Jesse Livermore. I’ve read several books on investing, charting, and trading. The data has been priceless, and I also acquired tremendous knowledge talking to clients about their stock positions and investment strategies.
In the early ’90s, I answered calls from clients at my Dean Witter office who wanted stock quotes. I shared a Bunker-Ramo terminal with another broker, and I was limited to 12 stock symbols on my side of the monitor. Giving quotes was tedious, especially if a client had an extensive portfolio. If they wanted more information, they had to wait until the following day to read the newspaper or review their month-end brokerage statement.
Merrill Lynch, Goldman Sachs, Smith Barney, Paine Weber, and Dean Witter dominated pre-internet information on common stocks. Individual investors coveted their voluminous research reports, and Wall Street firms controlled the information flow and held most of the power to move the market.
The internet is the ultimate equalizer. Investors can receive real-time quotes and trade with a click of the finger. Acting on company news is impossible because of how fast information travels. In addition, The Securities and Exchange Commission instituted Regulation Fair Disclosure (Reg FD), ruling that all publicly traded companies must release material information to all investors simultaneously, leveling the playing field, so trying to trade on news flow is futile.
Individuals still like to trade stocks, especially if a company like AMC or Gamestop goes viral on Twitter, Reddit, or TikTok. I understand the attraction to try and find the next big winner or needle in the haystack, but it’s challenging. And if you pick the wrong stock, it could destroy your portfolio. Recently, SVB Bank collapsed, wiping out shareholders. There are numerous studies on diversification and how many stocks you must own. According to The Motley Fool, you need at least twenty-five individual stocks to diversify your portfolio.[1] Apple, Microsoft, and Amazon account for 16% of the S&P 500 index, and the top twenty-five holdings comprise 41%. If you own twenty-five stocks or more, it will be hard to outperform an index fund, so you’re better off buying one and holding it for decades.
The data also support a move to index funds away from stock picking and actively traded mutual funds. A recent S&P SPIVA® study found that over 20 years, 96.73% of large-cap money managers failed to beat their benchmark. These results are similar for small, mid, and international money managers, and this underperformance also occurs on a 1, 3, 5, 10, and 15-year basis.[2] The data is historical, of course, so trying to select a stock or fund to top an index in advance is nearly impossible.
Vanguard’s Total Stock Market Index Fund (VITSX) gained 1,670% since 1992, averaging 9.73% annually, turning $10,000 into $176,000. A passive buy-and-hold strategy is challenging to defeat, and this fund gives you access to 3,941 publicly traded stocks.
Warren Buffett, the definitive stock picker, won a bet against hedge fund manager Protégé Partners. He bet them the S&P 500 Index would outperform a basket of five actively managed hedge funds over ten years. How did it turn out? The S&P 500 trounced the hedge funds by 89%! The S&P 500 returned 125%; the hedge funds, 36%.[3]
Over the years, I’ve converted most stocks to low-cost index funds, reducing my expenses and stress. It’s been hard to wean myself off stocks and move the money to a diversified portfolio of index funds, but it’s been for the better. I’ve been able to spend more time helping clients crystallize their goals through financial planning since I’m not tethered to a monitor watching stocks rise or fall. A similar move may benefit you, especially if you want financial peace and freedom.
Don’t look for the needle in the haystack. Just buy the haystack! ~ John Bogle
March 28, 2023
Bill Parrott, CFP®, is the President and CEO of Parrott Wealth Management in Austin, Texas. Parrott Wealth Management is a fee-only, fiduciary, registered investment advisor firm. Our goal is to remove complexity, confusion, and worry from the investment and financial planning process so our clients can pursue a life of purpose. Our firm does not have an asset or fee minimum, and we work with anybody who needs financial help regardless of age, income, or asset level. PWM’s custodian is TD Ameritrade, and our annual fee starts at .5% of your assets and drops depending on your asset level.
Note: Investments are not guaranteed and do involve risk. Your returns may differ from those posted in this blog. PWM is not a tax advisor, nor do we give tax advice. Please consult your tax advisor for items that are specific to your situation. Options involve risk and aren’t suitable for every investor. Prices and yields are for today only and are subject to change without notice.
[1] https://www.fool.com/investing/how-to-invest/stocks/how-many-stocks-should-i-own/
[2] https://www.ifa.com/articles/despite_brief_reprieve_2018_spiva_report_reveals_active_funds_fail_dent_indexing_lead_-_works
[3] http://money.cnn.com/2018/02/24/investing/warren-buffett-annual-letter-hedge-fund-bet/index.html, by Jackie Wattles, 2/24/2018.