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Three ways to beat the professionals
Do it yourself investors are taking on the professionals in record numbers and many are beating fund manager professionals. The number of people investing their own money has boomed during the pandemic thanks to low-cost platforms giving people easy and cheap access to the stock market.
In 2021, DIY investor numbers hit seven million for the first time, according to research firm Boring Money, taking control of their own retirement savings and long-term investments through SIPPs and ISAs.
It is easy to believe that the armies of analysts, reams for financial data and access to senior executives at companies will always favour professional investors. Yet retail investors have several edges of their own, and taking advantage of them can lead to superior investment returns.
LETTING THE WINNERS RUN
Risk management is important, whether you’re investing your own money or managing a large portfolio. But individuals can go about managing risk differently. Funds follow strict portfolio management guidelines, such as not allowing a single stock to exceed a fixed percentage of the total portfolio. This means fund managers need to regularly trim their most successful investments.
For example, Scottish Mortgage (SMT), one of the UK’s most successful long-range investors, sold down its stake in Tesla despite the share price continuing to rally through 2021. Yes, judicious profit taking can be sensible, but DIY investors can decide for themselves when, or even if, they want to do that.
THINKING TRULY LONG-TERM
Actively managed funds are typically benchmarked against an index or fund peers, with manager bonuses often tied to annual performance goals. This can lead to making decisions based on meeting shorter-term targets rather than value creation over the long haul.
Retail investors are not hindered by benchmark chasing and can concentrate solely on generating great real returns over multiple years. True, some funds encourage real longer-term thinking, asking that their performance be judged over, say, five years but they cannot always rely that patience will be shown during less successful periods.
LARGE GAINS FROM SMALL STAKES
Funds can trade companies with large market caps without issue but they are often forced to miss out on smaller, less liquid stocks because they cannot meaningfully invest. For the average DIY investors, this will seldom be a problem so they have a far bigger pool of potential stocks to buy.
There are specialist small company funds, but even these can become victims of their own success, becoming so large that managing decent-sized smaller company stakes can become too big a drain on resources.
These are simple factors that favour the DIY investor, and many already use them to their advantage. In 2020, soon after the pandemic first took hold, investment bank Goldman Sachs ran a study that compared stocks favoured by retail investors versus popular fund manager selections – and the DIY crowd came out on top.
Covering the period between 23 March 2020 and mid-June 2020, retail investor picks produced an average 61% return versus the professionals’ 45% increase. The S&P 500 rose 36% in the same period, the FTSE 100 gained 14.5%.
There are examples of ordinary investors going against the market mood recently too. For example, over the past month retail investors using the AJ Bell investment platform have been snapping up shares in oil giants BP (BP.) and Royal Dutch Shell (RDSB), airlines International Consolidated Airlines (IAG) and EasyJet (EZJ), Cineworld (CINE), Lloyds Bank (LLOY) and Imperial Brands (IMB), companies all exposed one way or another to economic recovery, loosening restrictions on travel, rising interest rates and rotation into unloved stocks.
It’s early days but so far so good for most of these calls. For example, Imperial Brands has risen nearly 3.5% over the past month and investors have scooped up a stock that offers an implied dividend yield in excess of 8%, BP is more than 7% higher, Lloyds is up 14%.
EasyJet has surged by more than a quarter in less than a month with travel restrictions significantly loosened for Brits.
And, again, Tesla has been a long-term favourite of DIY investors both in the US and in the UK, a company that has been called overvalued by many fund managers for years yet whose stock continues to defy gravity, rallying 720% in 2020 and another 50% last year.
DISCLAIMER: Financial services company AJ Bell referenced in this article owns Shares magazine. The author (Steven Frazer) and editor (Tom Sieber) of this article own shares in AJ Bell. Steven Frazer also owns shares in Scottish Mortgage mentioned in this article.