Today’s new traders aren’t paying dealing fees with Freetrade. But there are plenty of other costs to overcome.
There’s stamp duty, spreads on shares, platform fees, and if you do well even taxes (though these can often be avoided – see point #2 below).
More importantly, most people can’t pick stocks to beat the market.
They have no ‘edge’, in the lingo.
That includes most fund managers, incidentally. Most of their funds lag the market, too. (It’s all because active investing is a zero sum game).
A potentially costly business
That’s not to say you can’t buy a bunch of shares that will go up.
In a market that’s been flying higher like we’ve seen for the past two months, it’s easy.
But most of the time you would have done even better just to put your money in an index tracker fund and gone back to those Udemy cookery lessons.
Most things go up in a bull market.
12 tips to help you make money investing in shares
I’m not going to labour the point about passive investing in index funds today.
You opened your new trading account for excitement, not something that’s just as dull to do as it sounds – even if it is more profitable.
I’ll mention it again before we’re done (Monevator believes index funds are best for nearly everyone) but let’s assume you want to invest in individual shares to make money.
You want the glamour of being a high-rollin’ ball-bustin’ share trader!
Sitting on your sofa in your Gymshark shorts on your iPhone!
Here’s a dozen pointers from someone who has been striving to beat the market for nearly 20 years.
My tips might help.
A bit.
1. Keep costs low and trade less frequently
A commission-free broker like Freetrade is a great start, but remember UK investors also pay 0.5% stamp duty when buying into most larger UK shares. There’s a bid/offer spread on shares, too – same principle as when you change currency at the airport – and if you buy overseas stocks there will be a foreign exchange cost. Churning your portfolio every few days quickly multiplies these costs. With most platforms (though not entry-level Freetrade) there are annual charges, too. Check out our comparison table to find the best platform for you.
2. Use tax shelters – in the UK that’s ISAs and SIPPs
Even Freetrade charges £36 a year if you want to do your trading in an Individual Savings Account (ISA) while other platforms charge you to do so in a Self-Invested Personal Pension (SIPP). Despite the nailed-on expenses, you should bite their arm off and open them. In theory small-time traders can muck about without worrying about taxes on capital gains and dividends, but as your pot grows, taxes loom. Use an ISA and you can forget all about taxes, while a SIPP defers any pain until you retire. (More on tax-efficient investing and ISAs vs SIPPs).
3. Don’t blindly buy strangers’ share tips
It’s fine to read the better blogs, financial Twitter, and forums to learn about investing. You can learn a lot from smart investors who share how they think. But be wary of people touting their specific trade ideas – unless at least halfway vetted and presented in some depth, on a venue like Seeking Alpha or The Motley Fool – and run away from anyone urging you to get in NOW because it’s “about to go ballistic”. They’ll usually be clueless, cheats, scammers, or some exotic combination. Even if they’re not – is that how you’ll invest for the rest of your life? Following strangers ramping stocks online? Does that seem a likely route to wealth to you?
4. At our level, technical analysis doesn’t work. It’s horoscopes for grown-ups…
Most of these Internet hucksters will urge you to look at charts. They will talk about reversals, channels, double-tops, breakouts, and sacrifice chickens to the moon. The quickest and easiest summary of what you should do is ignore it all. It’s true that some ultra-sophisticated hedge funds find trading signals in price information (read The Man Who Solved The Market) but Barry on his iPad isn’t one of then.
5. …although you should favour shares where prices are rising over those falling
The one bit of price action it’s worth paying attention to is momentum. You’ll probably get better results if you buy shares the market seems increasingly keen on (a chart where the price is going up over time) versus one it seems to dislike (the price is sliding). The market isn’t stupid. It usually figures out when a company has something good going on. Also, momentum is a factor that can give a slight edge to a portfolio. (I’m hugely oversimplifying. That’s what happens if you don’t want to read a 480-page book…)
6. Don’t get carried away with value investing ‘fundamentals’, either
Most people eventually realize that trying to guess where shares will go by looking at their price charts isn’t making them any money. They may then dive in the other direction to study the metrics of a company/share. Things like the price-to-earnings ratio (a measure of how much you pay for profits), dividend yield (the cash you get back every year, if you’re lucky), or the book value (what, in theory, the company is worth, if things like Coca-Cola’s brand name weren’t in reality worth billions). That latter point gives you a clue as to the can of worms you’re opening. Yes, learning to understand these fundamentals is vital, eventually, and far better than watching random chart squiggles, but it’s a huge undertaking that’s prone to gross simplification. You only need to utter “this share is a bargain because the P/E is 3 and it yields 15%” once before a company goes bust to realize the numbers don’t tell you everything.
7. Instead, think about shares as businesses
This one might seem blindingly obvious, but even experienced investors often forget stocks are not an abstract mathematical artifact – they are mini-ownership stakes in businesses. When you buy shares you buy a part of a company that faces opportunities and struggles, and that’s striving to grow with the economy. This is what enables stock markets to go up over time (rather than being a futile piece-of-paper-shuffling racket as some believe). Analyze your shares by understanding them as companies. I believe you’ll eventually see much better results. This also connects your investing to the everyday world around you, which is a far more interesting way to live!
8. Be wary of ‘story stocks’
One danger with looking at shares as business propositions though is that you can be seduced by a good story. Every stock picker has been tempted by a tiny miner just months away from striking gold, a biotech about to cure cancer, or a manufacturer with a prototype engine that runs on old Amazon packaging. Also known as ‘blue sky’ stocks (because there’s often nothing to them) these are speculative ventures that should get – at most – a tiny percentage of your money and time.
9. Invest for the long-term: run your winners, and cut losers
At first, you think it’s all about buying low and selling high. That it’s never wrong to take a profit. That falls in markets are due to ‘profit taking’. And all of this makes sense if you’re a trader who lives or dies on your rules or system. But as I said, most people shouldn’t be traders. Be an investor. And when you invest in companies for the long-term – think years – the best can multiply in time many times over. I put 1% of my portfolio in Amazon a few years ago, and it’s gone up ten-fold. That kind of growth makes up for a multitude of small losses, but it’s too easy to sell up along the way. Remember, the most you can lose on a stock (assuming you avoid margin/leverage) is as much as you invested, but your gains are theoretically unlimited. One of the most successful stock pickers of all-time never sold anything.
10. Realise the stock market does not move in step with the economy
Another thing some people never understand. The market is not giving you a running tally on the economic headlines. There is a strong connection, certainly, between the real-world economy and the market. As I said the market consists of companies operating in the economy. But because investors can bid up or crash the prices of those companies for myriad reasons – hope, fear, greed, miscalculation, laziness – the two often seem out of kilter. In early 2020 markets started falling before many of us had even heard of the virus. They then rose as tens of millions lost their jobs. This seems bizarre until you understand markets look forward into an uncertain future. People are constantly trying to predict that future when they select what firms they want to own (or sell) and what price to pay, based on how they see things going.
11. Benchmark your performance (possibly)
If you’re going to be an active investor – as opposed to a passive investor using index funds – then you should probably track your returns accurately, and compare (benchmark) your performance against the market. The best way to do this is to unitize your portfolio. This enables you to properly compare your returns with any active or index fund. If after a few years you see you’re deluding yourself that you have edge, you can stop the bleeding! The reason I say ‘possibly’ is that tracking returns can encourage bad investing behaviour. You can get too short-term focused, trade more often, and simply get stressed. This is something I struggle with. Investing is a passion for me, and I sometimes think I should go back to not tracking my returns because I suspect I did better in those laid back days. But, of course, I don’t know that I did, because I didn’t track then…
12. Make a start with a passive index investment, on the side
An easy compromise is to split your investment money in two, and to put half into an index fund and half into your stock picks. You can do this even on a share-trading platform like Freetrade or Interactive Investor by buying a world index-tracking exchange-traded fund (ETF). Assuming you don’t add new money to your portfolio you’ll get a sense of how well you’re doing compared to your benchmark, that ETF. (If you do add new money, invest it equally between your ETF and your other shares to keep the comparison straight.) If after a couple of years you’re not adding value compared to the ETF, then sell your individual shares, invest in a proper passive ETF portfolio, and get yourself a new hobby. You’ll almost certainly end up richer as a result.
Put these on your reading list
What if you find you’re one of the rare few with the strange combination of personality traits required to make it as a market-beating stock picker?
Or if you really want to maximize your chances, at least?
You need to stop reading FinTwit and start reading books.
I have read over 100 books on investing, easily. Most of them had something to teach.
Here’s a rather eclectic list to get you started:
- The Art of Execution – One of the very few books about how to actually go about building – and pruning – a portfolio for profit.
- You Can Be A Stock Market Genius – Stop looking in the obvious places for your investments. Hunt out hidden advantages. The examples are dated, but the mindset is timeless.
- One Up On Wall Street – Again, dated examples, but you won’t find a better book on thinking like a business owner even as a spare bedroom investor.
- The Snowball: Warren Buffett and the Business of Life – Because it’s good to have goals.
- Investing Demystified – The case for passive investing from Monevator contributor Lars Kroijer.
If you want to try share trading, do so for free with Freetrade. Sign up via that link and we both get a free share. You’re already winning! The Interactive Investor and Amazon links are also affiliate links. This is a marketing cost for them, and doesn’t affect what you pay.
My sister in law opened her first account, a Vanguard personal pension, at the end of March, paying in £2,880 which is the maximum she was able to. She topped it up at the start of this financial year with another £2,880. The whole lot went into the Vanguard developed world tracker ETF (VEVE). Astonishing beginners luck. I have warned her not to expect the rate of growth to continue…
I would add a few more to your list.
13. Be prepared to put in a substantial amount of time if you hope to be a successful stock picker other than by pure dumb luck. So much is against amateur stock pickers. Not least, you have an information disadvantage. Not as bad as in pre-internet days, but still not to be underestimated. The thought of studying and keeping up to date with multiple company accounts and announcements puts me right off. Personally if I was interested in stock picking I would stick to small companies. They are simpler (or should be, if not steer clear) than large companies, less well researched and liquidity is much less of an issue with private investors.
14. Diversify! There are 2 main reasons for doing this. The first and most obvious is that even the best looking companies can suffer through no fault of their own (eg pandemics) or through some act of crass stupidity, such as director’s remarks, or fraud. The second reason is that the distribution of company returns is heavily skewed. A good rule of thumb is 2 out of 3 stocks will underperform the market in any year and it gets worse as the years roll by. To get the expected return of a portfolio up, you need to diversify. Another way of thinking about it is that your chances of picking a few big winners increases the more shares you pick. Don’t be surprised if you end up with far more duds that successes as that is to be expected.
15. Don’t get delusional. If you have an early success, accept that the reason is most likely that you have been lucky rather than a stock market genius.
What a welcome relief from the passive investing drumbeat. Chapeau, sir 😉 And yes, of course, usual wealth warning, 8 out of 10 cats prefer investing passively and do better for it, etc. But there’s no frisson in it IMO.
Ha, put majority of my last 10 years isa profits etc and what was left in my Woodford stash in a vanguard ftse 250 tracker end of Feb ish. Then feet up and relax me thinks. We all know how that went. Managed to go all in in 1987 and 2001. Thought I had it right this time.
16. If you’re investing directly in small listed companies and they are hitting their forecasts consistently, mind your eye, and have a good look at their revenue recognition policy. No good has ever come from bringing revenue forward, but it’s never stopped anyone.
I opened an account as a referral from here, got carried away with GGP (it’s working out so far…) and Lloyds and Saga are doing well. But yes, stock picking is a punt and I’m glad I’ve got my Vanguard ISA to protect my real savings 🙂
HELP! Apologies that this is off thread, but help, Google has confused me.
I have an HL Stocks ISA, I’ve paid in a few £k this financial year, but now I want to transfer my stash to ii, and continue adding savings this year. Am I allowed to do that or would I fall foul of the ‘only pay into one of a type of ISA within each tax year’. That rule seems mad; but that’s what Google appears to be telling me???
Can I transfer previous year’s funds, my recent savings since 6 April 2020, and then continue to add new funds into this new ISA if I have closed the old one.
Any help much appreciated – I have tried Google self-help, honest, but I just can’t find a definitive answer (I suspect because the answer I’m getting seems illogical to me).
Numpty.
There might be something in tweaking (autocorrect twerking!) your asset allocation to your situation in life, which won’t be fully reflected by Mr/Mrs market, which is an active decision. You could also call controlling your fear amd maintaining your faith to be an edge in itself. You could call the humility and self control to go passive to be an edge
Any trader who isn’t all-in whatever they’re doing is evidencing that they don’t have total faith in their strategy, which speaks for itself. If you had a crystal ball, you would know when to hold share(s) and when not to – you wouldn’t be forever part equity part bonds (if you’re totally active then make your mind up!) – and you’d use leverage if you had full confidence.
I believe you could probably make profit simply rebalancing between multiple very volatile things (even cryptocurrencies & gold) – but would it beat an index? – no – because otherwise a company doing it would already be IN the index, and automated
For most people the time spent researching would be better spend doing overtime for the man, even if you have an edge, unless you truely enjoy doing the level of research you’d need to maintain an edge
The monevator site appears to have been hacked!
I regularly cash out shares from my employer scheme when they become tax free in order to put into VWRL in my ISA, however this time it happened just as the stock had an unexpected bump so I put £200 of it aside for some dabbling on Freetrade (that I haven’t touched since I got the free share when it was first mentioned on the Weekend Reading).
Straight away bought fractions in Disney, Amazon and Nvidia but soon realised this was just as boring as VWRL so I now have a smattering of Pot stocks as well!
When my kids get older it’ll be like a longer Grand National – back a stock and see who wins each month etc. Unfortunately we can’t buy shares in Peppa Pig yet…
@Vanguardfan — Just to confirm, I presume that’s a joke. 🙂 (If not please explain the hack!)
As you may recall we used to do lots of active stuff. I am inclined to paywall it all or similar now, but @TA urges me to keep writing active articles for the wider readership, despite the site displaying some cognitive dissonance and the inevitable umbrage of the passive purists. He believes it provides stimulation and vicarious thrills, and also acts as a loss-leader, bringing in interested active investors who may later go passive…
I’m not going to have the debate here for the 50th time though. I’ve been pretty clear in my article that we think most people should be passive index investors. Our passive articles never include a similar “but hey, why not try your luck at beating the market share trading?!” line or two… 😉
Yes it was a joke. The winky face went missing (how do people get emoticons onto their posts?)
And i only said anything to register for comments anyway! Next time I will leave a simple dot.
No need to earnestly defend the post
Weirdly, I actually wrote out ‘winky face’ after that last sentence and even that went missing! I give up. Next time I will write JOKE for the avoidance of doubt!
@Vanguardfan — Thanks for clarifying. I’d much rather you left a comment than a dot though, which I’ll almost certainly delete. I’d like to have a subscribe-without-commenting option, but the last plug-in I installed to do it broke the site. Will try again next redesign. For now I’m afraid a several sentence comment is a tax on subscribing to comments! 🙂
p.s. To get that smiley face I just typed a colon followed by a right bracket. If you’re finding they disappear I’m guessing you’re adding them directly via a phone or similar?
A play portfolio is surely in order to run alongside with one’s main investments which should be passive certainly to begin with
If you get good -go totally active
If you learn like most of us that you don’t have a clue-then you have learned an investment lesson-go totally passive and concentrate on the day job
I certainly like to hear about active investment successes-some whizz kids can do it-Renaissance Technologies etc
They are a lot more fun than passive investing
xxd09
Thinking about trading strategies;
– Arbritage/ seeking value – bets that mispricings correct themselves at some point
– Index front running – arbritaged away already?
– Riding trends/momentum/timing peaks&troughs – are you faster than a hedge fund’s computer, or just lucky? Do you trust that your stop loss as a retail investor is quicker than the pro’s?
– short term trends – crystal ball? Insider trading? Thought it wasn’t already priced in?
– long term trends – already priced in
Any more anyone can think of? 🙂
I just think there if most pros can’t do it, so some random amateur can?
Although I suppose you are at least less constrained in risk taking/ tolerance, but that can largely be achieved in tweaking equity/bond allocation anyway
“Dont you know who I think I am ?”… Thats when you start using Stockopedia. Seriously though its actually very good & Im loving the yearly Naps the last year or two from Ed Croft one of the founders. Its a real deep dive of factor Investing and more.
A novice investor trading is going through a learning process, the result is most likely to be don’t bother.
After 30+ years, I have tried buying individual stocks a fair few times, the results typically we’re 1 success , 1 abject failure and 3 about even.
The good news is that the failure can ‘only’ lose 100% and the success can be unlimited. The overall results of my stock picking was about the market average…
Asset allocation using investment trusts to target sectors has worked, but ‘interesting’ markets are required ( as recently) these are occasional and sometimes it doesn’t work…
I have had success with arbitrage a couple of times but it’s hard for an amateur to get an informational edge.
All in all, index investing is profitable over time.
Interesting article. I have been thinking about shifting into investment banking, this might give me a good starting point. Thank you.
I do wonder sometimes though. What would I be contributing to society as a whole. At least working in a shop or service business, I am providing something tangible for others and for society. It gives some sense of meaning to my life. But just buying and selling numbers, it just feels quite an empty existence. Especially knowing that the chances of being beaten by a computer are huge, and any outperformance could simply be down to luck just as much as any underlying skill.
I can only try and see how I get on. Thanks.
@TI
I for one hope you *don’t* put your naughty corner behind a paywall. I can’t be the only passive type with a handful of specialist ITs on the side. ‘I’m a vegetarian but I do eat fish.’
Hi, Daughter has a cash LISA with Skipton. Should have been moved to stocks and shares long ago. Now that’s about to happen and she will be starting investing, but…
Just seen the governments reduction of the penalty for withdrawal. If she wants out now might be good timing.
She is too young to know her long term plans but might be working abroad possibly leaving UK long term. Unlikely to be looking at house purchase in the next 5 – 10 years or be able anyway.
So either transfer to The Share Centre Lisa and buy vwrl or Halifax stocks and shares ISA at £12.50 a year and buy vwrl or a Vanguard fund.
Thoughts, speculations, etc. What are we missing, etc?
Michael
P. S. Could do Lisa for now and think, then Halifax ISA transfer at some point this tax year if seems right. There will almost certainly be no changes or new information so this maintains flexibility to the unknown but costs most. Also all foreseeable changes in circumstsnces likely to favour Halifax ISA option.
@michael – without knowing when the money will be needed she could either stay cautious in cash/cautious investment or take more risk if she is comfortable with the idea of not being able to depend on the money in the short term – we can’t tell you how flexible you’ll want to be with your goals or how much risk tolerance you’ll have – don’t let the tax tail wag the investment dog! – ie tax treatment isn’t the most important thing to get right
Like you say could withdraw to an isa, but she’d be briefly out of the market doing it – selling up and buying again, and also although there is less penalty for now it’s not as if she is completely barred from accessing it later with a penalty if life changes. She could put it in a pension instead so it doesnt count against her for means tested benefits but then it’s not available for house purchase
P. P. S. Yes not exactly trading, more, err, investing, but topical, relevant, and sort of a trade.
Hi Matthew, Agree about tax tail wagging the investment dog of course. Asset allocation is a different question. Money will hopefully sit there long term probably regardless, but waiting until 60 is unlikely, and buying a house in foreseeable future also seems unlikely, but may happen one day.
Question is what does the future hold for Lisa’s? Obviously any thoughts on that are speculative.
So 20% penalty now or 25% sometime, probably. Ouch.
@michael – if she does move abroad, isas of all kinds probably wont have such favourable tax treatment as they do here, in fact she might even have to retain citizenship to have an isa(?) – i’d be careful with pensions too but they’re more likely to be more tax acceptable to a foreign taxman. Lisas are probably no benefit for foreign house purchase.
Without employer contributions a lisa is probably better for retirement than a sipp, I even put equities in isa and bonds in the sipp to tax less what grows faster.
I wouldn’t write off her buying a property, VLS20 would usually keep up with house price inflation and she could borrow nearly 5x her income, which might in some places be enough to buy a flat (careful with leaseholds!) – house/flat purchase is the most tax efficient and safety buy to let you’ll ever have (being your own tenant and saving the “imputed” rent) – very few investments beat that, especially with the leverage of a mortgage. Paying down a mortgage however, is another matter (a bond purchase of sorts)
@bob – you’d be ultimately helping businesses to grow & provide jobs, by trading/investment banking you’re helping to determine the accurate price and liquidity, which enables standard investors to up the price/liquidity of successful companies in the secondary market, which means that successful/efficient/needed companies can issue new stock (like how the second hand car market enables new cars to have a value &thus be sold).
You’d earn a lot of money investment banking because ultimately you’re providing a service society needs – it’s just very abstract and diluted across many companies in a huge system, but it’s real.
An existential problem for bankers is justifying their existence to the populace after 2008
There are some bad apples no doubt of it
They also handle money therefore their individual success is measured by increased monies
Not a popular yard stick
However see how society would function without them-perhaps it could but not at the level we have got used to
Police seem to be in the same box at the moment-use of force-bad apples-see how we would get on without them
Economic downturns,COVID,Brexit etc etc
A reset moment-everybody having to justify their place in the sun
Reminds me of 1960,s when I was a callow youth
We turned our world upside down for a few years at that time too-it seemed great fun to us but not to our elders
Perhaps these societal “downturns “ occur regularly as do Stockmarket ones albeit not so often
Part of the human condition-life is dynamic -stability is unusual ?
xxd09
@xxd – indeed I think at the time leveraging mortgage backed securities seemed like a reasonable thing to do – we just had an education about the liquidity of them. If it goes well; hero, if it goes bad; villian, woodford is a prime example – its an uncomfortable truth for some that capitalism made the world we had and uplifted the lives of the poorest more than anything else, although intergenerational strain will always be there and one day we’ll be blaming the millenials for ruining our planet, house prices, etc
The one I always have problems with is 9. “Run your winners, and cut losers”. I can understand where it comes from. If you look back 10-20 years you will see phenomenal growth in some companies. If you held those companies, but sold or booked some profits you may have missed a lot of the growth. But there are a lot of companies in that history that followed other paths. For example, some companies would have produced very good returns, but went through one or more bad patches. Others may have started well, but subsequently went down hill.
There is also a timing issue that bugs me. A winner to one investor may be a loser for another if bought at a different time, leading to different buy or sell decisions.
If you had bought Apple during the dotcom boom you would have lost more than 80% of your money within a couple of years, but it would have been a big mistake to cut this loser. Similarly running winners like Enron or Marconi would have been a mistake.
I think a better approach has to be to regularly evaluate your investments and ask whether your expectations of future growth is still legitimate, and legitimate at the current price. Then make decisions to cut, or add to investments accordingly, whilst also trying to avoid trading too often and keeping an eye on diversification.
@numpty (6)
See https://www.gov.uk/individual-savings-accounts/transferring-your-isa
You can only subscribe to one ISA per type per year, but the ISA is the tax wrapper, and can be transferred between providers as often as you wish. Use the proper ISA transfer procedure (ie get the new provider to initiate the transfer), don’t try to withdraw and re-subscribe.
Starting to move DC pensions into SIPPs at the beginning of March in preparation for a November retirement.
Managed to get one in quickly (the others are still going through the motions)
Previously they were in cash, then bought Fundsmith, HSBC Global Strategy Balanced and First State Infra, what an unexpected bonus (+20%, +9%, +9%)
I agree with @Naeclue’s point 14 to diversify, as someone once said that it’s the only free lunch in investing. I recall studying this in the early 80’s at university and that statistically the optimum number of shares in which to diversify was somewhere between 13 and 20 to avoid specific company risk. Subsequently I think I’ve seen recommendations of numbers up to 30, but I can’t recall any firm evidence on these rules of thumb. As @xxd09 suggests, I run a play portfolio currently of 27 shares representing around 10% of my investments (excluding the small amount invested through Seedrs group scheme in many small businesses).
Rule 9 goes against the general recommendation to rebalance your portfolio too. I can also testify from personal experience that running my Enron winning shares and options was a bad plan, and it took years before I’d utilised those capital losses 😉
On teaching others the benefits of investing, I’ve realised that there are very few pure passive investors – perhaps those automatically enrolled in a workplace pension who take no action so end up in the default option. After that it’s varying degrees of active decisions on a spectrum, ranging from choosing which LifeStrategy fund to choose all the way up to day trading. I don’t see passive verses active as a binary choice – most investors are somewhere on the active spectrum.
@passive Pete, I have long thought that “Passive” was a misnomer. If someone bought 50 random shares and did nothing but collect dividends, how is that not passive investing? “Systematic” investing might be a better way of putting what we do.
Regarding running winnings / cutting losers, absolutely what one should be doing (in my humble opinion, and my way of doing things) is evaluating the business according to whatever metrics/measures you use (at least some of which might be qualitative and subjective) and continually reassessing it versus its valuation.
However (1) that process is bound to be hugely inaccurate even with the greatest investors / valuation approaches, and running winners enables the market to help you along if you’re too cautious (2) the momentum factor exists, and running winners enables you to get some of that puff (3) it’s mainly a ‘rule’ that’s useful as a brake to counter what more people do, which is cut winners (‘take profits’) and hang on to their miserable losers.
I could write several articles as to why that’s a bad idea, from mathematical to psychological. But it boils down to if you’re going to do one or the other, you can get rich running winners, and you cannot get rich running losers whilst selling anything that goes up. Full stop.
My own investing doesn’t follow any set precepts (stuff like “sell half if it goes up 50%” or “use a 20% stop loss”) or anything at all like that. I’ve flirted a little with such principles in my early days, but I think they’re all at best another way of saying “reassess this share” and then doing something much more fuzzy.
Personally I have a ‘universe’ of about 100-200 companies/vehicles/assets/whatnot, of which I own as many as half at any time, and I’m often adding and trimming positions, as well as finding new opportunities and booting out situations I’ve grown disenchanted with. It’s basically a full time job, and by the end of the year I’ll have done well over 1,000 trades. (And yes, there is a huge expense, which I track meticulously and take into account with my unitized returns!)
For all that, my biggest regrets all involve selling things too soon — and I’ve lost as much as ‘the lot’ on a share (a fraud, a long time ago) so that’s saying something.
In that case I lost 100%. But you can lose huge amounts of potential compounded wealth by, say, owning BooHoo at 30p because it has a useful amount of cash on hand and selling it at 60p because the margin of safety is gone (or something like that, I’m making up the specifics which I can’t remember) and then watching it go up to £3.60. 🙂 That’s a further six-fold gain forgone that I had to make up somewhere else…
I’m not too bothered when there’s a reason (such as my thesis/safety margin being outed) and in fact I try never to be too bothered, because that’s an investing mind-killer.
But if I’d sold because it had hit some arbitrary gain target, I’d be mortified.
Cheers for the comments on this article. 🙂
I’ve gradually been selling out of positions in individual counters and putting the proceeds into widely diversified index funds and funds of funds. The experience of seeing the value of individual holdings cut by up to 80% in the GFC was sobering. Timing has been an issue and arguably it would have been better to have sold out of the individual positions and invested the proceeds in the index funds all in one go, but I couldn’t bear to sell out before my stocks had regained previous highs plus a certain margin. Where I have been able to do this I have had no regrets. Problem is I still have a half-dozen or so that may never regain those levels, but still I hold on in hope.
Re 9. “Run your winners, and cut losers”
This comes back to a comment I made on the previous thread: that the distribution of long-run stock returns is massively positively skewed. So over the past 30 years or so, the top 1% of US stocks have generated 60% of equity returns; the top 5%, 85% of returns. That’s in gross terms. In net terms, the number for the top 5% is about 105%. Conversely, 55-60% of US stocks have underperformed T-bills.
This is why stock picking can be so dangerous. Get everything right but miss a few of the big performers and your returns are still lousy. Missing those that fail also enhances returns but not as much as picking the winners (because the loss from losers is floored at 100% when it hits zero).
This isn’t a US centric issue to do with tech stocks. At a global level it’s actually the same or more positively skewed, with the top 5% providing almost 90% of gross returns and 130% of net returns. Globally, it’s helped to miss losers somewhat more than in the US.
This favours diversification, if only to not miss out of those winners. Hence why equity index investing is a good strategy. It also favours momentum since the coefficient of mean reversion in many equities is low, leading to longer regimes and stronger trending behaviour.
I don’t think that this rule applies to other asset classes. They don’t have that extreme positive skew. In fact, in areas like fixed income, mean reversion is often a more effective strategy. Cutting winners and running losers can work. Obviously, the exception is the strategy of being long-duration since we’ve seen a secular decline in global yields for 30 years. Nonetheless, when your think in terms of cross-market strategies (say USTs vs Gilts) or yield curve strategies (2y vs. 10y etc) then mean-reversion/valuations are effective.
You mentioned stamp duty. It’s a bit off topic for this article, I’ll grant, but what’s the deal with ETFs? Googling it suggests there is a ‘premium’ for ETFs at a similar level of magnitude as stamp duty for stocks, but – as a VWRL buyer – I can’t see anything relevant except the premium in the sense of the relative value of the ETF vs underlying assets.
Of course I could be getting horrible confused, but could anyone shed some light? I don’t really churn ETFs, but it’s still an invisible cost, seemingly, if it exists…
@TI “cognitive dissonance” … I thrive on this, your article is a beautiful thing. If, as a novice, I had read it, would I recognise it’s truth? – It’s the closest thing to passing that test I have read in a long time.
I will save this post and let it do a lot of explaining for me when I get asked what I do with investments. My own cognitive dissonance is my tendency to stray from these principles and still hold them. Hopefully I learn by my mistakes.
JimJim
@ZXSpectrum48k: Quite right of course about the atrocious skew in returns from equities! Live by the sword, die by the sword as a stock picker, and most obviously die. It’s also one reason I own way more individual positions than textbooks would indicate is optimal.
Interesting thoughts on fixed income. Tangentially, a question if you have a minute? You write:
Do have a view on corporate credit here, especially high yield? I’ve put some money into a variety of HY corporate bond investment trusts on the grounds that (1) spreads seem historically wide over government bonds and this has signaled value before (2) they are back to trading at decent discounts again to NAVs that are well-off the March lows (3) they are run by apparently competent managers who are infinitely better than me to be deciding what to hold in their basket of risk/reward (4) I’m (naughtily) reaching for some yield (5) Central Bankers seem more interested than usual in supporting the economy through direct intervention in securities markets, perhaps due to the unusual nature of this recession (6) I anticipated some reversion to the mean after the financial crisis and that worked out, and I’m a behavioural slave to habit. 😉
I’m guessing you’ll take a dim view of the creditworthiness of some of these issuers (who I’ve only done the scantiest look at, instead passing responsibility to managers!) given your pessimistic view of Main Street’s future, but would happily chew over a few of your thoughts if you’re interested in sharing. Cheers!
@TI. While I’ve done some fixed income credit professionally, I haven’t touched it as part of my job for almost a decade. I don’t really have any interest in actual businesses so, rather like equities, it’s never really appealed to me. I much prefer rates. So I’m not well-informed.
Personally, I’ve never really held HY debt as a long-term position. I generally prefer EM US$ sovereign debt as my “credit trade”. I’ve held US$ HY debt as a tactical trade a few times (2009, 2011, 2016), always on the back of a major spread widening. In very broad brush terms, once the index implied default probability exceeds about 10%/annum then I get interested (say 700bp spread). At 15%+ (say 900bp), very interested etc. This time round the spread got into the zone , almost 900bp, https://fred.stlouisfed.org/series/BAMLH0A0HYM2, but somehow, due to a combination of factors, I didn’t get around to buying any.
EM $ debt funds (say EMD US) also got pummelled 25% lower. That just seemed better value. That was clearly just collateral damage from broad based credit selling in low liquidity. There was little, if any, actual increase in sovereign default risk. By comparison, in a cashflow type recession, US$ HY debt could clearly have issues. Moreover, over the last decade, there has been an increased weighting to shalers in the index. I don’t really understand/want that implicit oil exposure.
I think you’re correct to identify the Fed’s willingness to buy IG corps and the need for carry (which will only to get more extreme) as major boosts for HY debt. The issue is that applies to most forms of debt. I reckon EM will get the same tailwind and there is a lot less of it around.
I’m not actually as bearish as some on the economy (because the economy is not Main Street). I tend toward the idea that we are looking at 1Q/2Q of poor growth, then mean reversion back to something like normality. I find it hard to believe many official forecasts which have such poor growth in 2020. Take the BoE with -14% in 2020 and 17% in 2021 as a case in point. With -20% mom growth for April, it’s actually hard to get to -14% for 2020 without a tsunami as the second wave. So if places like the UK only contract -7 to -10% then I can imagine the current HY spread of 600bp going straight back to 400bp. Then 300bp as vol falls and the carry grab intensifies.
The problem is that’s consensus at this point. Nobody thinks it’s as bad as the official policy agents are forecasting. Plus I don’t really think I have any edge in my macro view.
So it comes down to payout ratios. If I buy at 600bp, then my realistic target is 300-400bp which really means my stop can’t be wider than 700bp. Or I can only take a small position here, to add further on widening, to average in. Thing is though, when I look at a chart where the recent low is 400bp and recent high is 900bp, I know I’ll want out at 500bp. So really my target is 100bp away with a stop 100bp away. For me that’s just a recipe to get stopped out or just fiddle around pointlessly. So I just don’t bother and stick to other markets. Sorry!
Agree, back when I tried my hand at stock picking (penny shares no less…) my biggest regrets were where I sold too early. I think as long as one stock is not overly represented in your portfolio, this will be your biggest regret. If it is a large portion of your portfolio, then that is likely to be your biggest regret as you lose it all or stop sell. Which is perhaps a point that is missing, how many different shares should you hold? One assumes that free trading helps take the sting of buying many shares…
@ZXSpectrum48k — Thanks for sharing your thoughts. While you may not do this professionally anymore it’s still interesting to hear how you’d approach the asset class, which doesn’t actually seem a million miles from my dilettante tack.
They won’t be long-term holds for me. I’ll watch the (crude, retail level) spreads between gilts, investment grade and high-yield and likely reshuffle before too long as those change, hopefully in my direction!
@JimJim @others — Cheers for the positive words. I’d like to do more on active, but I don’t want to rehash debates every time — especially when I agree with the debater. 😉 Perhaps a first pass would be to register for free active articles and then see where we go from there.
I’d far rather a casual new investor came across one of @TA’s articles than one of mine. But at the same time, I recognize (of course) that some have a passion for active investor and stock picking (not least because I do!) So that’s the circle to square.
I had an active muck about with cfds last year with some risk capital. Lost a bit of money of course but that wasn’t why I did it. It was great fun and I learnt a lot about what my emotional risk tolerance is, which was the point of the exercise. Took the money out, bunged it into something out, crystallised that out after a month and my cfd loss was regained. A valuable experience and one I would do again if it wasn’t such a pain in the arse when it came to the tax return.
@TI – I also follow the sentiments of Mousecatcher007 but I don’t have any active investments just a very small passive portfolio which I’m happy with, but do like to read a variety of different viewpoints to educate myself. Would appreciate more on the ins & outs of investment trusts more purely for interest. Read up on the basics and when taking into consideration their costs they look too expensive for my small sum but would like to know more, such as at what point do they make sense for such small fry investors such as myself (if at all). Great stuff, thanks again 🙂