It’s no secret that a lifetime of successful wealth management frees families financially, providing the opportunity to realize charitable inclinations and leave a legacy for loved ones.
However, due to failure on the part of the financial media and industry, many clients come to us with a limited understanding of how to best improve their stock investment returns.
Let’s dispel the more common myths surrounding investment performance and discuss a more reliable, efficient and prudent way to improve investment returns over the long run.
Conventional "Wisdom" Doesn't Equal Effective Financial Strategies
Conventional wisdom from Wall Street and many investment professionals is usually based on the notion that successful investing depends on beating the market through market timing -- choosing when to make buy or sell decisions by attempting to predict future market price movements -- or stock picking, choosing the “best” individual securities.
Research indicates, however, that not only are these common practices misguided, but they are actually detrimental to many investors’ bottom lines. Numerous empirical, peer-reviewed studies, including two comprehensive analyses of the nation’s largest pension funds, found that investment strategies based on market timing and stock picking accounted for an insignificant portion of long-term portfolio return.
In contrast, both studies found that asset allocation – or diversifying portfolios across a number of investment types – was the dominant driving force behind long-term returns.
Myth 1: Wealth Management Includes Market Timing
Market timing is based on the premise that one should be in or out of the market depending on the economic outlook. This method gets a lot of press, despite the fact that it is not a successful investment strategy.
In reality, the claims of success based on market timing are wildly exaggerated. To illustrate, consider that Mark Hulbert of the Hulbert Financial Digest has systematically tracked the performance of market timing newsletters since 1979. His conclusion? As a whole, they failed to beat the market.
Jumping in and out of the stock market is not a path to financial peace of mind and un less you’ve got a working crystal ball that shows the good days and the bad days in advance, market timing just doesn’t work.
Myth 2: Stock Picking is an Essential Wealth Management Solution
Then there’s stock picking, the preferred investment strategy of most professional money managers. Admittedly, the allure of picking companies with the best growth prospects and avoiding the ones with the worst can be exciting, but the simple reality is that stock picking simply isn’t a feasible long-term investment strategy.
Howard Gold outlines an exhaustive studty performed by Barras, Scaillet and Wermers that tracked 2,076 actively managed U.S. domestic equity mutual funds for 30 years. They found that after fees, three-quarters of the funds exhibited zero “alpha,” a fund’s excess return over a benchmark index. And 24% of the funds were run by unskilled investment professionals (who had negative alpha, or value subtraction). That's not all. Are you sitting down? Only 0.6% — you read that right, 0.6% — showed any true skill at beating the market consistently.
The vast majority of professional investors not only fail to beat market returns over the long run, they fail to even match them.
So what’s the alternative?
The Solution: An Evidence-Based Approach to Wealth Management
Here’s the good news: There’s a solution to the misguided investment approaches endorsed by Wall Street firms, the financial media and most investment professionals. Decades of research indicate that taking these three steps can greatly enhance the likelihood of a better investment experience.
1. Work With the Market, Not Against It
Let’s face it: Without a crystal ball, you can’t predict what will happen in the market on a given day. As Warren Buffet’s mentor Benjamin Graham so aptly put it, “We think that, regardless of preparation and method, success in trading is either accidental or impermanent.”
Accept that market portfolios of index funds or structured asset-class funds will reward you over time and you will:
Lower your investment costs
Increase the tax efficiency of your portfolio
Move away from the pitfalls of market timing and stock picking
Be more likely to enhance your returns over time
2. Emphasize the Most Rewarding Segments of the Global Capital Markets in Your Portfolio
Persistent and solid evidence reflects the outperformance of small companies and value stocks as compared to more traditional large company and growth asset classes. However, few portfolios capture the excess returns – and take advantage of the favorable risk/rewards -- that these asset classes historically provide.
3. Work With a DFA-Approved Independent Registered Wealth Advisor
Dimensional Fund Advisors (DFA) is a global leader in providing structured asset class portfolios that offer consistent, low-cost exposure to the favorable risk/reward segments of the markets discussed above.
At Premier, we have been working with DFA since 1996, as they've produced the best investment components that we have found for our clients. In our opinion, their portfolios are unmatched in the investment industry.