Dalbar, a leading financial services market research firm in the US, recently conducted a study to determine how small investors have fared over the years compared to the stock market as a whole.
In fact, it has conducted a similar research for the past 12 years, and with conclusion that has said the same story each time, which is…
Small Investors are Bad Investors!
“Small investors are losers,” says the Dalbar report, “…and have consistently underperformed the broader market on a multi-year time frame.”
Here is a chart that shows the most recent decade’s rolling 20-year returns for the average mutual fund investor in the US compared to the S&P 500 index…
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“But these numbers are for the American small investor,” you may say.
My dear friend, I’m sure the numbers for Indian investors won’t be any different!
Now, why do I say this? For two reasons:
- First, like their US counterparts, a majority of Indian equity mutual funds, after fees and expenses, have underperformed the benchmark indices over long time periods.
- Two, you know for sure how you – and other small investors around you – have moved in and out of the stock market and thus these mutual funds, thereby compounding your costs and cutting short your returns.
Over the years, thanks to your sudden excitement or sudden panic, you have hurt yourself as far as your stock market return is concerned.
Thus, I feel unfortunate to tell you this, but there are great chances that you have been a bad investor all these years!
If you have any doubt about it, I encourage you to compare your performance against that of the BSE-200 index (or any other broader index of your choice) over the past 5-10 years. You may be due for some humbling.
But if it makes you feel any better, know that you’re not alone. Most other small investors may have performed equally bad.
Another proof I have is the list of confessions drawn from my recent post where I had asked readers to list down their worst individual stock performances.
More than the actual performances, what was more enlightening was the list of mistakes readers shared associated with their losses, which follows below.
I suggest you take a print of the following text, paste it in front of you, and read it every time you are about to make an investment decision. It may save you a lot of grief in the future.
Small Investor’s Wall of Shame
Here is a list of 40 investing mistakes most investors make, which I have collated from the confessions I received in the recent post. I am sure you will associate with a lot of these…
- I, the small investor, buy stocks even when I don’t understand the underlying businesses.
- I get carried away seeing just glimpses of greatness – like low valuation and good corporate governance – and don’t look at the overall business. I act like the man with a hammer for whom everything in the world looks like a nail.
- I invest in businesses that are growing fast, but ignore that they are also burning capital consistently to achieve that growth.
- Ensuring management integrity sounds difficult, so I often avoid it. I forgot what Buffett said about energy, intelligence, and integrity (that if you don’t have the last, the first two would kill you).
- I spend a lot of time reading newspapers and watching business channels, and thus I easily get carried away by stories – especially when too many people are repeating them.
- I don’t believe brokers but I believe independent research houses that serve me readymade stock recommendations week after week. So that solves my problems of doing any independent study.
- Okay, I sometimes put blind trust on tips from broker, especially when they are for multi-bagger stocks.
- I hold on to a stock – whether it’s in profit or loss – even after I realize that buying it was a mistake. Hope has always been my great friend.
- I love the ups and downs of cyclical industries (cement, steel, etc.) despite not being an insider and despite not having deep knowledge in the same. So what if I was crushed by such cycles in the past. The future will surely be different.
- I love to throw good money after bad because I want to be consistent with my original decision. I work hard to find companies and then invest a lot of money in then. Every fall just gives me an opportunity to average down my costs. If I can average when a stock falls from 100 to 25, I will always average when it falls to 10 or even 5.
- I have read that high debt can kill a company, but I have also seen a few companies recover from their debt burden in the past…and so I don’t avoid companies with high debt to equity. I don’t understand the base rate of success of companies that have high debt.
- When I love a company’s product or service, I don’t think twice before buying its stock. I believe if a company’s product or service is good, so will be its financial performance.
- Warren Buffett is too humble to have a “too hard” basket for businesses that are complex to understand. I don’t find anything too hard for me!
- I believe a good company will always turn into a good investment. So I don’t mind paying any price if the business is good.
- I hold on to stocks that are down 80-90%. How worse can it get?
- I find it difficult to convince myself that I have made an investment mistake. After all, I rarely make mistakes!
- I often don’t remember why I bought a stock.
- I often buy a stock because a smarter investor bought it. How could he be wrong?
- IPOs? Oh I love them, and especially for their listing gains. Again, I don’t bother about the base rate of success as an IPO investor (which, in reality, sucks!).
- I only show patience when it comes to holding on to my losers…rarely otherwise.
- I love cheap stocks. Even if the business goes bankrupt, I will still get some money back.
- I believe in high conviction and high concentration. So sometimes, my best idea would form 70-80% of my portfolio.
- I have great faith that businesses that are going downhill can turn around. I know Peter Lynch said that “turnarounds rarely turn around”, but I am always hopeful.
- When I make some money in the stock market, I feel like a great stock picker. I see this as a great way to keep myself motivated.
- Some stocks that are down 80-90% are lying in my portfolio for the last 10 years. You see, I am a long term investor.
- I know that businesses that have been “reliable” for years will be reliable in the future as well, and so I can always “rely” on them.
- I have a great memory and don’t believe in having a written process. I am after all a human and will continue to make many mistakes. But I will learn from them, and that’s important.
- The beautiful anchors on business channels often lead me to buy bad stocks. But that’s a cost you must pay to watch them throughout the day.
- I often buy stocks due to peer pressure. How can people I know make quick money while I am left out?
- If a company’s promoter is doing fine today, I avoid looking into his past. People change, after all.
- I understand P&L accounts but find balance sheets confusing. By the way, who has the time to read balance sheets these days?
- So what if the stock has risen 50% from the time I sold it? I will buy it again! I don’t want to miss out on the gains like others have made in recent times.
- If a company is earning good profits, it must be earning good cash. After all, doesn’t profit equal cash?
- I am often attracted to shiny stuff that has great future potential – things like green energy, new drug, and latest technology.
- I am young and thus have too many years to cover my mistakes. So what if I lose some money now. I have enough time on my side to try out many stocks before finding the best ones.
- I am sure putting out my mistakes in the open will help me avoid making them in the future, so I felt great after confessing on Safal Niveshak.
- I read Safal Niveshak like it is a holy grail that will make me a smarter investor. I am sure of Vishal’s capabilities and thus sure that I will find my multi-baggers some day.
- I stopped doing my homework ever since I left school.
- I don’t believe in miracles, except when it is about my stock portfolio.
- I know that a fool and his money are soon parted, but I am not that fool.
Hate the Sin, Not the Sinner
You see, there’s no point splitting your hairs on what has happened in the past. But surely there’s an urgent need to throw floodlights on what you are doing as an investor, as of NOW.
It’s a time to do a reality check – whether you really want to take up stock market investing on your own, or delegate the responsibility to a fund manager and then keep your fingers crossed for the next 10 years.
Of course, there’s no point quitting the stock market at all taking this to be a casino or a place where just the big investor wins.
If you have time in your hand – and that’s your biggest edge as a small investor – there’s no better place than the stock market to create your retirement nest egg.
But there’s no point being overconfident – and that’s a big sin – on your capabilities as a stock market investor…thinking that you are much better at it than you actually are.
Please don’t treat stocks as coins in a coin-flipping contest. “If not this one, then that one!” is a dangerous mentality in the stock market.
Your odds of success will only grow if you can take time out to understand businesses, then buy only those that are good and are available at discounted prices, and behave sensibly all through this process.
Online trading has given you great powers to instantly invest whenever and wherever you want. But before you choose to use this power the next time, always remember what Spiderman said – “With great power comes great responsibility.”
You have been a bad investor. Now I hope you will become a responsible one.
All the best!
Hi Vishal, great post as usual. Could really connect with lot of these 40 sins,although my experience of direct equity investing is negligible.
Just one thing though, “understanding the business” is an oft used phrase. What does it really mean. Would it include “forecasting” company’s earnings, cash flow, evolution of its business model over say next qtr, next year, next 10 years. How to go about it. When do i say that i “understand” it.
U say its a pre condition before marrying any stock!!
Would love if u cud consider it imp enuf to do a separate post.
Keep inspiring us!
Thanks Ashish! While I have a covered a lot about that part – of understanding businesses – in my value investing course, let me see if I can dedicate a post on that soon. Regards.
Excellent checklist Vishal. Worth going through before putting another Rupee in the markets.
Point 37 is too good! 🙂 🙂
Thanks Ashish!
Great one Vishal, I took time to fill it, here’s mine…good to see most points are green.
Thanks Sunny! And great to see your own checklist! 🙂
The list is very well put.
The list though rather long is the bitter truth.
Ignore and fall,
Think, understand and rise.
Even after all this the inherent risk will remain, since that is the nature of the beast.
Thanks Sudhir!
Point 30. Tulsi Tanti – ran down Suzlon Fibres while launching Suzlon Energy. It shares the same fate.
Thanks for sharing that, George 🙂
Vishal,
You said, “…encourage you to compare your performance against that of the BSE-200 index (or any other broader index of your choice) over the past 5-10 years.”
Actually I am looking for a tool/software/website where I can update all my transactions and check how I performed. The challenges are:
i) The splits and dividends should be calculated (Google Finance does this, but not rediff money)
ii) The stocks which are bought from money previously invested in other stock should be accounted for in the calculation (Google Finance doesn’t has it)
iii) The returns should be visible yearly and overall. Most websites I know of show overall returns only, without taking into previous loss or gains.
iv) Since we invest intermittently, so returns should take into account the current date – buy date as time-period to calculate the returns
Request you to suggest the right platform for such calculations.
Thanks.
I am maintaining my transactions since the beginning in a now discontinued MS Money software (Not sure I want to risk exporting / re-entering all the data). I manually track and enter transactions, dividends and split/bonus (it does adjust price automatically). I am sure that there are many (better) programs available to do this and do some of the tasks automatically (though I still prefer manually doing some of the things) .
However, this does not give me a holistic picture. So, I have started maintaining a separate excel sheet (which uses the data exported manually from MS Money) which helps me track my portfolio. It keeps track of portfolio value and performance, current cash levels, profit/loss on individual stocks as well as groupings / tags (like Pre-2008 buys, newer investments / Stocks by purpose – LT investment, ST trade, MT investment etc.,), expenses related to stock market like books, research services, courses etc.,
It also tracks my past transactions (and where the stock is currently now). I do not trust my memory at all – something I learned when learning to write audio reviews on forums. It applies equally here as my ‘memory’ is sometimes better than the reality. Whenever I start feeling ‘happy’ with the current performance, all I need to do is to scroll the sheet to check my misadventures to get a bit more sober again.
I also have a few things which try to make the sheet ‘me-proof’. For instance, instead of just profit/loss %, for loss making stocks, I also have a column that shows how much the CMP has to go up to reach the average buy price. I am lethargic to the core. So, I also have a computed value of an imaginary account which earns 10Y Bond + 1% (which is roughly where 1 year deposit rates lie) compounded quarterly for every buy transaction (sells and dividends are withdrawals). Though I am not sure if this is ‘right’ way of seeing things, all I know is even some profitable stocks when held too long can erode time value of money and this number gives me some idea about the question “Would I be better off if I quit stock market and invest in FDs?”
I am a slow learner and not very bright. But since I started working on the sheet, my view on some aspects have changed. I have started looking at things at the portfolio level much more. It has also forced me to re-assess my capital allocation strategy and some of the ways I transact. I would not say I am a better investor because of it, just that it has kept me from becoming a worse investor.
As for computation of returns, I use monthly time weighted returns (see here). Again, I am not sure if it’s right or not, just that it *may* be better than computing point to point returns when buys an sells have happened in the interim.
Thanks for answering Saket’s questions, Eswar! Regards.
Dear Vishal,
I once again confess that I am a small investor and a bad investor too.
I am also convinced that as a small investor if you need to comfortably meet the long term financial goals by regularly investing small money now, equity and debt investment based on a proper asset allocation is the only way to go.
My annualized returns from my own stock market investments are no way comparable to my mutual fund returns. My stock investments are nearly -ve 15% on annualized basis where as my fund investments are +ve 7% on annualized basis over a 5 year period. It doesn’t mean that I invested in cheap and poor quality stocks, my portfolio consisted of many high quality large cap stock and midcap stocks and some bad stocks, yet in deep losses. Even though I made good money in some stock, I lost equally good amount of money in many other stocks. I have recorded my monthly investment amount and my portfolio value for stock and fund investments on monthly basis over a 6 year period and have analyzed the investment and return patterns and have come to an conclusion, that for me and majority of small investor, direct stock market investing is suicidal. Well many here many not agree to my conclusion but if they analyze their investment pattern, I am sure they will be convinced (there may be exceptions like Mr. RK). As many doesn’t analyze their investments, they live in a illusion about direct stock investing and its high returns. More importantly if you had made money in some stocks, it is most likely that you would have re-invested the same in another stock to lose it or to lose it on the same stock buying it at a lower level (hoping that you are getting a bargain). I am sure very very rare to see some one compounding money by investing in direct stock investing, but it is a very common to see it in fund investing.
Unless you are so much convinced that you can easily beat the returns provided by funds run by Mr. Prashant jain, Rajah Sukumar, Naren etc. and their investment research team, based on my experience I have come to my conclusion that it is a futile execise to spend time and money behind direct stock investing.
To build a house, you go to a Engineer / Contractor (speacialist). To take care of your health you consult a Doctor (specialist). To take you to places (many a times) you have a driver (specialist). To do your own house hold, which you can do easily by yourselves (than picking a stock), you have a servant (specialist). But to do your portfolio managment instead of going to fund manager(specialist), we decide that it is an easy task and can be managed by ourselves (here you become a specailist).
You should not see it as stock investing, you should look it as portfolio managment. It is never that you own a single stock and you are monitoring it. A small investor can never be a portfolio manager. Check your portfolio returns (not stock return) on a annualized basis and certainly most of the small investors must be in deep losses.
While it is a late realization, luckily, I have made my investment plans some 7 years ago on my goals and have invested consistently/systematically in quality funds during all ups and downs. Although, the returns are not encouraging on a standalone basis, but comparing the market returns with my own portfolio returns versus those fund returns, it is very encouraging. Moreover, the asset allocation that I maintain as per my plans helps me to keep investing more when the market is down.
After realizing the above, I have made up my mind to restrict my further investments to Funds only and to approach equity investments only through Funds. Well I may come across many who will say that stock was multibagger and I made tremendous money out of it, I am sure and convinced, just by keeping away from all these noises from friends and TV channels and investing in a fund systematically based on your financial plan and maintaining a proper asset allocation will take you towards your goal and for sure you will have a better time to spend with with family and friends.
I would also appreciate, if others could share their annualized portfolio returns of their direct stocks and funds in this post.
Regards
Ajay
What about investing and forgetting for many years when some special situation occurs?
E.g. if you check many of the PSU banks are now available at about 30% of their book value
with high dividend yield (>8%). If we pick up some of them and keep them forever (till retirement),
it becomes a nice source of passive income at that time.
For regular monthly investment, I agree that SIP is the only way for most of the small ivestors.
Thanks for your honest confession Ajay!
I agree to your view that a proper asset allocation is of utmost importance in building your wealth over the long run.
But I think a statement like “direct stock market investing is suicidal” is too harsh and de-motivating for people who are learning to do the hard work in becoming independent investors.
I may have my bias here given that I have taken the onus of helping people learn the nuances of direct stock investing, but then just one 5-year period of comparing results of direct stock picking versus MF investments should not deter people from giving up on picking up stocks directly.
Of course, it’s suicidal to get into direct stock picking without learning the rules of the game and learning how to take care of the behavioural biases – which are both tough things to practice – but then, like people start businesses even when 9 out of 10 businesses fail, people should learn to invest in stocks directly and then do it with a part of their savings, even when there’s a history of a lot of people failing at it.
Why? You may well become an exception like Mr. RK Chandrasekhar and earn much greater returns than MFs can earn you over, say, a 15-20 year period. And why not?
I will tell you a short story here.
The leading American entrepreneur, author and public speaker Seth Godin has had a great influence on my life as a writer and thinker.
In his latest book titled The Icarus Deception, Seth writes about the story of Icarus, whose father Daedalus fashioned two pairs of wings out of wax and feathers for himself and his son to fly out of a prison they were captivated in.
Daedalus tried his wings first, but before taking off from the island, warned his son not to fly too close to the sun, nor too close to the sea, but to follow his path of flight. However, overcome by the giddiness that flying lent him, Icarus soared through the sky curiously, but in the process he came too close to the sun, which melted the wax.
Icarus kept flapping his wings but soon realized that he had no feathers left and that he was only flapping his bare arms, and so Icarus fell into the sea.
The Icarus myth is often used as an example of when hubris or over-confidence – of flying too high – can go badly wrong.
However Seth, in his book, points out that there is another part of the story – Icarus’s father Daedalus also told his son not to fly too low as the water could also damage his wings.
As per Seth – “Society has altered the myth, encouraging us to forget the part about the sea, and created a culture where we constantly remind one another about the dangers of standing up, standing out, and making a ruckus.”
However, he writes, settling for too little is “a far more common failing”.
The crux of Seth’s book is that we all have the potential to do great work in life. However to do so, we need to leave our comfort zones – to fly closer to the sun.
What this requires of us is to have the confidence to take bigger risks and create new things.
This requires facing up to the pain involved in the process, and being open to possible failure and criticism.
In the investing world, where you find more and more people sleepwalking instead of taking the risk of going against the crowd, it pays to be an Icarus.
Given that Icarus has set a precedent for you, you don’t need to fly too close to the sun by having a false arrogance and thus risking your life’s savings to earn super-normal returns.
But then, there’s a great risk in flying too low and settling for mediocre long-term returns on your money – that can and will also come from MF investments – which could happen only if you play a rash money game.
To conclude, I believe there is no hard and fast rule that you have to invest directly into the stock market. You may do it entirely through good MFs or a mix of stocks and MFs, but only after you learn the rules of the game (and these can be learned over time).
Direct stock investing, without the stress, but with high risk-adjusted returns isn’t an illusion IF you can play the game sensibly while accepting the occasional punches in your face.
Just my personal, honest, opinion. 🙂
Dear Vishal,
Thanks for that nice reply.
Regards
Ajay
Dear Vishal and Tribesmen,
First of all, I have been a bad investor and still I am as per those 40 investing mistakes of most investors but I can vouch for visible improvements in my decision making about stock investments from the time I have joined this group of experienced and intelligent investors.
I have realized over time that developing good investment strategy is somewhat like raising your children and imparting them the virtues of good character, good behavior and good thinking- being good and doing good. Choosing good stock at good price having a promoter with good track record will eventually lead to good results over a period of 10-20 years. As we give time to our children to grow up and become good citizen, watch their back during difficult times, teach them the value of hard work and dedication ( like Milkha Singh’s signature at the end of movie BMB), we should also give time to our investments holding on the good ones, analyse our investments periodically and weed out the bad ones. As in our own life, sometimes things go wrong, other times things work well but eventually goodness will always prevail.
I was recently reading the excerpts from the book ” The Laws of the Spirit World” by Khorshed Bhavnagri, and came across one of the thoughts on Karma- It may not be exactly applicable to investing world but we can always take cues and develop our own latticework of mental models through multi-disciplinary learning.
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Karma is not a punishment – it is the law of learning. The purpose of the law is to teach you where you went wrong, so you understand your mistake, and never repeat it again. Karma is based on the principle of what you sow, you reap. It can be explained in terms of cause and effect (cause refers to your actions – thoughts, words and deeds; effect refers to the consequences of those actions). Therefore, karma is a debt you owe or a blessing you receive based on the consequences of your own actions (your free will), from this lifetime or previous lives
(Note-True for your investment decisions, ur actions will decide results. Buying low and selling high is good thought but how many of us take such actions ??)
Karma can be positive or negative. Positive karma is built by doing selfless good deeds such as small acts of kindness, helping a person in need, being a good listener, looking after animals, spreading spiritual knowledge, providing direction and support to lost souls, being fair and just at work, and so on. On the other hand, negative karma is built by harming others, lying, being deceitful, revengeful, being proud (being rude/putting others down), hurting others (even with your words), not carrying out your duties and responsibilities, addictions, committing suicide, doing the wrong thing despite having knowledge, fooling people (manipulation), mental/physical torture, nagging, not spreading God’s laws, not helping others to rise spiritually, not taking care of your own body, peddling drugs, being spiritually stagnant, doing something good but with the wrong intention, negative affirmations/thoughts about yourself or another, not fulfilling your mission, spoiling your children, blaming others and many other such negative deeds.
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Finally, as Prashant Jain ( Star Fund Manager-HDFC Prudence and HDFC Top 200 and CIO of HDFC AMC) wrote in one of his articles that “You should remember God in good times and Equity in bad times”, it pays my friends to be a patient investor and a good human being ( I still remember Mr. RKC’s decision of holding onto good stocks, charity done by his father and selfless deeds by his mother and his own family. Vishal and other tribesmen who are sharing their wisdom, experiences selflessly are also building up their positive Karma slowly !!)
With warm regards
Akhilesh
* Pardon me for my digression from the actual subject but thought it will connect somewhere.
That was beautiful, Akhilesh! Thanks for sharing! Regards.
Thanks Vishal for yet another good article. I would always advocate for learning the skill than buying the skill.
Here is my personal opinion.
One can also analyze his own current income, current assets, near term/long term expenditure and goals before getting into investment wagon.
If you hold a asset that generates return, instead of taking our current return into account, we can consider taking 5 year average. If we have monthly salary, we can consider taking average of 5 years. The current market not only may inflates external things, it can inflate personal income too! So given some time, inflation will catch up and the salary that we saw will soon vaporize for lifestyle expense.
Don’t completely ignore conservative financial instruments like fixed deposits completely fearing for inflation. Though inflation will affect savings equally, when it comes to spending, it affects people differently. Allocate at least 20%.
If you live near a village, you might use less electricity, water is free, food is cheap, might even use less refrigerator. Hence inflation for a village man is different and he can successfully save through FD. What I meant is to control spending portion to win inflation.
I notice that there are many levels of tax in India. Tax on your salary, food, car, fuel, entertainment. Plus, the seller of service has to make 20% from what you pay after paying his tax and dues. On top of all that, the prices are speculated. Before couple of months, I read an article about cement companies fixing price. Then 600 Cr fine, now the fine did not went to guys who bought cement, it went to govt. The only way to escape is by limiting spending.
Be comfortable in sitting with liquid cash in bank. One must not underestimate the power of holding cash. As we can’t predict future, the future might have bad times as well as too good times. In good times cash is an opportunity, in bad times cash is a survival.
In yoga, I heard from my instructor that, instead of focussing on “target” focuss on “process”. I believe the same thing goes to investing.
These are great insights, Ragu! Thanks a lot! Regards.