Last year, I wrote a note on the lack of diversification in retail investor portfolios. An analysis by VZ Vermögenszentrum in Switzerland showed that Swiss investors on average invest in a handful of active and passive funds but add on average six to seven stocks to the portfolio. The problem is that these six to seven stocks make up more than one third of the portfolio, thus creating significant concentration risk.
Thank you so much for pointing out this study. As a student I was sincerely hoping that one day someone takes a closer look at those ambiguous look back windows. By any chance, do you know or have a similar study in mind for institutional investors or find managers? Thank you
isn't the research quite conclusive that, say, 60-70% of stocks usually underperform the market, and hence stock picking is a fool's (or genius') game?
I'm all for international diversification (as this year demonstrated. On the other hand, which retail investor was good and conscientious at diversifying internationally after 15+ years of U.S. outperformance?)
Also, I think methodological diversification is key, so I try to implement a good mix of momentum signals, and macro triggers, plus even gobbledygook like risk parity.
But to diversify by owning six different well-known companies? Give me an edge, or I won't play.
I know, timing is on average a losing game and having just six stocks in your portfolio is terrible. But at least if you try,you could put some effort in. This study shows, people aren't even putting any effort into their 'research'.
I define as a retail investor (1), and I feel offended! 😉
Isn’t this paper just a performative act of finger-pointing? I’d argue that focussing on time spent by retail investors misses the point.
Firstly, by definition they don’t invest for a living, so available time is severely limited. Twenty-odd stocks might be considered ‘reasonably diversified’. If, as an example, one spent a whole Sunday afternoon properly analysing each stock – would one’s family agree that this is the best use of one’s time? (One would also need a sell trigger other than ’when I’m down 70%’.)
Then, just staring at the stock chart for longer also wouldn’t help awfully.
Rather, what retail investors seem to be lacking is financial literacy. What should be addressed is problem awareness and easy access to easy-to-understand educational resources.
———
(1) Maybe I’m more of a ‘prosumer’. I run a 20-stock formula-based value portfolio. Methodology is stolen from Greenblatt’s Magic Formula, five cheapness factors are from GMO and Meb Faber. Takes me about a day each quarter to manage. Up 180% vs. 130% for the DAX since inception (2016). ‘Not to brag but to inspire’, as they say on social media.
Well, I apologise for offending you, but from your post and logo, I deduct you are a German with a sense of humour 😉
I get your point about time constraints for retail investors. But if you are constrained for time, why bother with stock picking in the first place? I recommend investors should buy a couple of well-diversified ETFs as a starting point and add single stocks only if it is a hobby and they enjoy it. And if it is a hobby, I would say you should put the work in to analyse a stock.
By the way, I am a big fan of Greenblatt's methodology and think it is a very good way to pick stocks. But how many retail investors know about that and how many of these use it as advertised and stick to a portfolio of 20-30 stocks. As I said in the post, retail investors have on average only five or six stocks in their portfolio. If you have so few stocks, even the Greenblatt methodology breaks down because each stocks contributes too much to total portfolio risk and no quantitative methodology is foolproof. you will always have some losers in your portfolio but if you have only five stocks to begin with, the losers can easily destroy all your gains.
You’re correct. The other half of the logo is the Catalonian ‘senyera’ which is where I happen to live.
And I totally agree with your point on stock picking. That’s not for the average retail investor, and it should be blasted daily in their faces at 120 dB. It can be a satisfying hobby. ETFs (plural) are usually the way to go. Don’t put everything in an MSCI ACWI tracker unless you know the weighting.
First, I really enjoy your blogposts. They are insightful and interesting and they have guided me to buy your book. I am just reading it.
My question, do you have already written a piece about systemic risk of ETF’s or/and negative impact on capital allocation based on company performance in this regards. I understand the concept of risk distribution from my major finance lessons at uni :), but the aspects I mentioned let me feel a bit uncomfortable with this huge and still growing (?) ETF market. Maybe I miss something out.
I assumed the short timing window of three month charts indicated retail investors were satisfied with the stock, but thought short term performance was a random walk and so were waiting for a relatively attractive pricing window?
Thank you so much for pointing out this study. As a student I was sincerely hoping that one day someone takes a closer look at those ambiguous look back windows. By any chance, do you know or have a similar study in mind for institutional investors or find managers? Thank you
Hi Sven
No, I know of no study that looks at institutional investors and their use of lookback windows.
isn't the research quite conclusive that, say, 60-70% of stocks usually underperform the market, and hence stock picking is a fool's (or genius') game?
I'm all for international diversification (as this year demonstrated. On the other hand, which retail investor was good and conscientious at diversifying internationally after 15+ years of U.S. outperformance?)
Also, I think methodological diversification is key, so I try to implement a good mix of momentum signals, and macro triggers, plus even gobbledygook like risk parity.
But to diversify by owning six different well-known companies? Give me an edge, or I won't play.
I know, timing is on average a losing game and having just six stocks in your portfolio is terrible. But at least if you try,you could put some effort in. This study shows, people aren't even putting any effort into their 'research'.
I define as a retail investor (1), and I feel offended! 😉
Isn’t this paper just a performative act of finger-pointing? I’d argue that focussing on time spent by retail investors misses the point.
Firstly, by definition they don’t invest for a living, so available time is severely limited. Twenty-odd stocks might be considered ‘reasonably diversified’. If, as an example, one spent a whole Sunday afternoon properly analysing each stock – would one’s family agree that this is the best use of one’s time? (One would also need a sell trigger other than ’when I’m down 70%’.)
Then, just staring at the stock chart for longer also wouldn’t help awfully.
Rather, what retail investors seem to be lacking is financial literacy. What should be addressed is problem awareness and easy access to easy-to-understand educational resources.
———
(1) Maybe I’m more of a ‘prosumer’. I run a 20-stock formula-based value portfolio. Methodology is stolen from Greenblatt’s Magic Formula, five cheapness factors are from GMO and Meb Faber. Takes me about a day each quarter to manage. Up 180% vs. 130% for the DAX since inception (2016). ‘Not to brag but to inspire’, as they say on social media.
Well, I apologise for offending you, but from your post and logo, I deduct you are a German with a sense of humour 😉
I get your point about time constraints for retail investors. But if you are constrained for time, why bother with stock picking in the first place? I recommend investors should buy a couple of well-diversified ETFs as a starting point and add single stocks only if it is a hobby and they enjoy it. And if it is a hobby, I would say you should put the work in to analyse a stock.
By the way, I am a big fan of Greenblatt's methodology and think it is a very good way to pick stocks. But how many retail investors know about that and how many of these use it as advertised and stick to a portfolio of 20-30 stocks. As I said in the post, retail investors have on average only five or six stocks in their portfolio. If you have so few stocks, even the Greenblatt methodology breaks down because each stocks contributes too much to total portfolio risk and no quantitative methodology is foolproof. you will always have some losers in your portfolio but if you have only five stocks to begin with, the losers can easily destroy all your gains.
You’re correct. The other half of the logo is the Catalonian ‘senyera’ which is where I happen to live.
And I totally agree with your point on stock picking. That’s not for the average retail investor, and it should be blasted daily in their faces at 120 dB. It can be a satisfying hobby. ETFs (plural) are usually the way to go. Don’t put everything in an MSCI ACWI tracker unless you know the weighting.
Maybe I should make a Substack out of it … 😬
Hi Mr. Klement,
First, I really enjoy your blogposts. They are insightful and interesting and they have guided me to buy your book. I am just reading it.
My question, do you have already written a piece about systemic risk of ETF’s or/and negative impact on capital allocation based on company performance in this regards. I understand the concept of risk distribution from my major finance lessons at uni :), but the aspects I mentioned let me feel a bit uncomfortable with this huge and still growing (?) ETF market. Maybe I miss something out.
Best,
Andy
Hi Andy
Well, I am not sure if they are what you are looking for, but try the following posts:
https://klementoninvesting.substack.com/p/the-butterfly-effect-index-funds
https://klementoninvesting.substack.com/p/when-index-trackers-act-as-magnifying
https://klementoninvesting.substack.com/p/the-duo-oligopoly-of-etfs
https://klementoninvesting.substack.com/p/where-is-peak-etf
https://klementoninvesting.substack.com/p/the-rise-of-ponzi-etf
ah, so the difference between the masses and voodoo chartists will be ~4 more minutes within the flattish median !
I assumed the short timing window of three month charts indicated retail investors were satisfied with the stock, but thought short term performance was a random walk and so were waiting for a relatively attractive pricing window?