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Stock-Picking Is a Fool's Errand

BOSTON (TheStreet) -- In case it wasn't already clear, new studies show that index investing is the way to go.

That means fund managers, advisers and brokers largely don't help individual investors.

Three separate research reports, issued together by the Center for Retirement Research at Boston College, conclude, variously, that individual investors have poor stock-picking skills, investment advisers' advice is frequently not in clients' best interest, and that profits from value-style investing can be, at best, illusory.

All of which, the organization says, "raises serious questions about buying individual stocks or actively invested stock funds."

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And one of the studies even takes on the investment record of the Oracle of Omaha, billionaire investor Warren Buffett, and finds that his long-term results probably aren't repeatable.

Individual investors are woefully ineffective in managing their own portfolios successfully without a modicum of luck, according to a study by four professors at Germany's University of Goethe, published March 15.

They tracked 8,600 individual investor portfolios from a German online broker for five years, through April 2010, measuring their performances against a four-factor model's benchmark "to distinguish skill from luck" in stock-picking success. They found that about 89% of individual investors have "negative skill" since, by their calculations, a portfolio, "with an average level of risk-taking" underperformed the model's benchmark by 7.5% on a gross-return basis and by 8.5% net of expenses.

"It can thus be concluded that the large majority of individual investors do not have the skill to outperform the market -- and if they do, it is mere luck," the study concludes.

Value-oriented investing, which relies on the analysis of financial fundamentals to find undervalued companies, was put under the microscope by Aswath Damodaran of the Stern School of Business at New York University, and found wanting.

"Of all of the investment philosophies, value investing comes with the most impressive research backing from both academia and practitioners," he writes in the April report.

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The excess returns earned by stocks that fit value criteria, including low multiples of earnings and book value and high dividends and the success of some high-profile value investors, such as Buffett, "draws investors into the active value investing fold," Damodaran said.
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