Picking Stocks Is a Waste of Time

The 2/26/2007 issue of the Wall Street Journal had a special section for stock score board. If you don’t have access to WSJ Online, it’s worth digging it out from a library. I’m highlighting something I noticed in that section which makes the point for the title of this post — picking stocks is a waste of time.

When you invest in individual stocks, instead of mutual funds or exchange trade funds (ETFs), you can invest in the right stocks in the wrong time, or you can invest in the wrong stocks in the right time. Timing, or better put, luck, dominates any skills you think you may have.

Exhibit A. Chico’s FAS (CHS) was one of the best performing stocks in the last 10 years. At the beginning of 1997, CHS traded at about $0.25 a share, split adjusted. At the end of 2006, it was worth over $21 a share. An average return of over 50% per year for 10 years. Fantastic stock! But, there’s always a but, it was also one of worst stocks in the last 1-year period. At the beginning of 2006, CHS was worth $43 a share. By the end of 2006, it lost 1/2 of its value. Good stock in the wrong time. Since 2007 began, it went up 9%. S&P 500 was flat to slightly down during the same period. Will CHS continue its long term upward path, up 50% a year for 10 years, or will it continue its downward movement from last year, down 50% in one year? Or will it do something else? Whatever your answer is, are you sure?

Exhibit B. The problems faced by the U.S. automobile companies are well publicized: declining market shares, wrong products for the market, high cost structure, big losses, … The price of General Motors (GM) stock at the end of 2006 was the same level it was in 1963, split adjusted. That’s right, except for dividends, GM stock didn’t go anywhere in more than 40 years. And the dividends aren’t that much either. GM’s current dividend yield is 3.3%. Who wants a stock that pays 3.3% dividend and doesn’t go anywhere for 40 years? Aren’t you better off in a savings account? Bad stock! But, there’s that but again, GM stock went from $18.90 a share in the beginning of 2006 to $30.72 in the end of 2006, an increase of over 60%! Bad stock in the right time. Since 1/1/2007, it was up 2%, beating S&P 500. Do you buy, sell, or hold? Whatever your answer is, are you sure? Now it’s Ford’s turn. Its stock didn’t go up much in 2006. Will Ford rally in 2007 like GM did in 2006?

Those are the perils of stock picking. You think you are picking good stocks but they may deliver bad results despite your firm belief and research efforts. When your stock loses 1/2 of its value, it really tests your conviction. Do you bail or do you wait for a turnaround? Or you think you are avoiding bad stocks, but you may miss out on big gains from stocks you sold or didn’t buy. Do you jump back in or wait on the sidelines and see it going up and up? Decisions, decisions.

I’ve been down that road. My results were poor, but not for lack of knowledge, discipline, or efforts. The market simply doesn’t go where you think or want it to go. If you invested in individual stocks and the market went your way, you were lucky. Pure and simple. Don’t ever think your results have anything to do with whatever you did. It could easily go the other way. Or as they say on Wall Street:

Never Confuse Brains with a Bull Market.

It’s much easier to invest in broadly diversified total market index funds and save yourself the agony. Accept what the market delivers to you, good and bad. Focus your energy and efforts instead on something you can control — advance your career, increase you income, reduce your expenses, save more, spend more time with your family, … … Picking stocks is a waste of time.

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Comments

  1. MoneyMan says

    Great way to put it “never confuse brains with a bull market” or as I like to say “a rising tide lifts all boats” (stole that from Warren Buffett).

    When real estate was on fire, everyone in real estate thought they were donald trump. Everyone and their mother was a landlord/flipper/broker etc…

    When stocks were on fire, everyone and their mother was a great stock picker…

    But when markets correct and those people lose half the money in their accounts, they disappear.

  2. Finance Guy says

    Index funds are the way to go.

    On an interesting aside, a lot of research has gone into mutual funds, and a top performing mutual fund on average turns into a bottom performing mutual fund within 5-10 years of that designation.

  3. Anonymous says

    I disagree with your conclusion. I’ve made plenty of money picking individual stocks. I am a student of the Graham/Buffett school of investing. I look for solid companies that are “on sale”. If you buy at a discount you reduce your downside risk. It takes more effort, but it is something I enjoy doing. If you are not keen on reading financial statements and researching companies then, by all means, buy your index fund. But don’t claim that picking individual stocks is a waste of time. I think Warren Buffett’s net worth shows that it is not nearly as clear-cut as you (or the WSJ) claim.

    In addition, I’d like to ask if you are familiar with selection bias? By cherry-picking certain stocks, the WSJ (and anyone else) can make their point without actually proving anything.

    For instance, I could prove to you that stock picking is the most lucrative thing you could have done in the past 20 years. All you had to do was invest $10,000 in Microsoft and you would be doing pretty well. That being the case: Stock picking is not a waste of time! :P

    See how that works…

    Hmmm, I smell another great article for WSJ here…

  4. TFB says

    Anonymous,

    Thank you for your comments, and disagreement is fine with me. I’m glad stock picking has worked out for you. In fairness to WSJ, they didn’t say picking stocks is a waste of time. I did. They only reported the best and worst stocks in 2006. Good luck to your endeavor. Can you tell me which stocks are “on sale” now?

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