Psst! Wanna Be a Better Investor? Then don’t follow the stock market or the economy!

I’m going to let you in on a secret!

It’s going to sound like a strange claim, but nobody who understands how the stock market works is going to be able to refute it. Here goes:

I have an investment account comprised of three index funds. If I died today, and if that money was just allowed to grow over time, it would beat the vast majority of professional investors.

Over the first five years, it would probably beat 70 percent of professional investors.

Over a ten year period, it would probably beat 80 percent of professional investors.

Over a fifty year period, it would probably beat 98 percent of professional investors.

I used the word “probably” because I can’t be sure, exactly, what percentage of investment professionals would lose to a dead man’s investments, but my trend is correct. The longer the duration, the more badly this future cemetery dweller would beat the pros. As mentioned, nobody who understands how the stock market works can argue against that.

Strange But True

Most investors who react to changes in the stock market, the economy, and their investments (ie. most traders) underperform most investors who could lay around in hammocks all day, without ever watching financial news or following anything financially related.

Sure, there are going to be people who watch their investments like hawks, and do reasonably well, but most investors who monitor the markets and the economy do worse than investors who just sit on their diversified portfolios of index funds and never touch them.

Investing is a pretty bizarre game—unlike virtually anything else.

For instance, if you want to be a good soccer player, you have to study the game, refine your skills, and practice, practice, practice.

If you want to be a good writer, a good dancer, a good speaker…the same rules apply. You have to practice and refine your abilities.

But investing is different. And there’s a compelling reason for that:

If you own a representation of the world’s stocks through an index fund, and just hold it, you’ll beat the vast majority of the professionals over your lifetime. There are highly paid and highly trained professionals who will follow the economy, follow the markets, and buy and sell strategically, but the vast majority of them will lose to a soccer mom who buys a basket of global indexes, and never even opens her account statements.

Here’s why:

The soccer mom’s investment returns will be exactly the same as the average, professional global stock market trader. That’s how the markets work. If you own a total U.S. stock market index fund, for example, and if the U.S. stock market makes 5% this year, it means that the average dollar invested in the U.S. market that year made 5%. And because the average invested dollar made 5% that year, it would mean that the average professional investor, with money in the market, made 5%…because most of the money that’s in the market is directed there by professional investors.

Because you own a representation of that entire market (through an index fund) you would earn a 5% return.

Just by owning a stock market index fund, you can make a return equalling the average of all professional investors. Most of the market’s investors are professionals, trying to gain an edge. But the soccer mom would beat half of them, before fees.

After fees, she would beat more than half of them because professional investors would incur more fees than she would. Buying and selling stocks costs money, as does the research associated with the decisions professional investors make.

Some of those professionals would beat the soccer mom. But they won’t be able to do it every year. Sometimes, a lucky/talented professional could beat the soccer mom for a few years in a row, but ultimately, the odds are that the “skilled” professional will end up losing to the market average. In many cases, they would end up giving back their advantage. Studies show that high-performance levels, among professional investors, are rarely sustainable.

Now, these professionals are trying really hard. They all follow the economy, sometimes keeping money out of the markets, sometimes putting larger sums in.

But the markets can move quickly. Those who have cash on the sidelines never get an announcement from the ever-humbling market, informing them when it’s going to rise. In fact, nobody knows what direction the markets are ever going to go. It’s hard to believe, but it’s true. So when the markets do make a jump, many of these professionals (who kept money out of the stock market) scramble to get money in. And those who try this market-timing game lose a step or two to the soccer mom who keeps her money in the markets, rather than trying to second-guess its direction. When you don’t have money in the markets, and they rise, you have lost the opportunity to profit from the jumping market. These “losses” are called “opportunity costs”.

Then there are the amateurs. These people are competing with the professionals, trying to out-think the pros, trying to out-think the markets, and trying to busily move their investments from fund to fund, stock to stock, or cash to bonds. But they don’t generally beat the pros.

That said, the soccer mom does beat most of the professionals…if she resigns herself to more important past-times, while ignoring the stock market, interest rates, and the economy.

If you’re curious as to why I chose a soccer mom and not a soccer dad, there’s a reason. Women’s investment accounts generally outperform men’s accounts.

Why?

More men think they can guess where the economy or the stock markets are headed. And of course, their overconfidence generally hurts their returns.

If you read an online blog or news article that outlines, in great academic detail, where the markets or the stock markets are generally headed, just smile.

Then go to the park with your kids, leaving others to second-guess the markets and the economy.

If you have a diversified investment account that you never touch (especially if it’s comprised of index funds) you’ll beat the vast majority silly…without even trying.

It has to be one of the world’s greatest paradoxes.





Andrew Hallam

I’m a financial columnist for Canada’s national paper, The Globe and Mail, as well as for AssetBuilder, a financial service firm based in Texas. I’m also the author of Millionaire Teacher: The Nine Rules of Wealth You Should Have Learned in School (2nd Ed. Wiley 2017) and The Global Expatriate’s Guide To Investing: From Millionaire Teacher to Millionaire Expat (Wiley 2015). My mission is to educate, motivate and inspire people on basic retirement planning and best practices for investing, using evidence-based strategies. I’m happy to comment on your questions. However, please read the Terms of Use, Privacy Policy and the Comments Policy.

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14 Responses

  1. MoneyCone says:

    Not something one likes to hear, but your advice is spot on!

    The bottom line is, costs matter as much as returns. One who understands this basic truth and *acts* accordingly, have better chances of winning than those who focus only on returns.

    • You're right that few keen investors like to hear this kind of thing MoneyCone. But I'd imagine that many average people (who aren't interested in the investing game) would love to hear it. The trouble is, the vast majority probably wouldn't believe it. From some people's perspective, it could sound too good to be true.

  2. DIY Investor says:

    Very well put! And in the end the soccer mom will have a substantial portfolio and many of the greedy people who tried to beat the market by market timing and stock picking will be floundering.

    I like the ones who throw up their hands and proclaim that investing is just gambling after they've lost a huge amount. Well, actually the way they play it it is gambling. – 🙂

    • You're so right Robert, about the way some people view investing as gambling. I don't think the words "play" and "stock market" should ever be combined in the same sentence.

  3. The Dividend Ninja says:

    Andrew, great post!

    Regardless of what your investment style is, dividends, index funds etc. you are absolutely right – switch off the noise and don't try to predict the market. And that means leaving it alone and letting the plan work 😉

    This is a hard concept that almost everyone has learned the hard way at some point. Most people have to go through this investing hurdle, and then realize the stuff they leave alone (and not what they stock-picked) is what does the best 🙂 The faster one can realize this and at an earlier age the better.

    PS

    It's true! Women are better investors than men, they are wired not to gamble. They are less likely to press the buy and sell buton in any hurry.

    • Hey Ninja,

      Do you think some people are just wired to be bad investors? Are there people who will always believe that forecaster have merit, and that strategically dancing around from fund to fund or stock to stock can give them some advantage? Regardless of what they read or study to the contrary, do you think there are people who are incapable of being disciplined enough to leave their money alone?

      Or do you think everyone can learn how to invest?

      • The Dividend Ninja says:

        Andrew, everyone can learn how to invest if they have a good mentor or teacher 🙂 Some people just get it early on and make the right moves early in life, they understand the time value of money, hard work, and patience with investing. They are usually cautious and don't take too much risk. They are the lucky ones 🙂 I didn't strat until my 30's, but sure wish I started earlier.

        I would say some people are indeed wired to be bad investors, usually they are spenders as well. But that can be "dislearned" if they have someone to help them and guide them, or at the very least give them inspiration.

        I will give you 2 examples of people at work.

        One of my co-workers continually buys penny-stocks, and he loses money every time. Oddly enough he makes some good picks, but he either doesn't buy in or buys and sells at completely the wrong time. He truly believes he will hit the big one that will offset all his loses. This is the worst case scenario I have ever seen. He is a gambler and would be better off with lottery tickets. He has no intention of changing, he will lose a lot of money before he is 30. Nothing I will say will help him. He asks me if I buy any stocks lately – I say "no just collecting dividends, or I topped up a US Index Fund last week." He thinks I am not making any money LOL. He will never learn – becuase he thinks he is smarter than everyone else. I truly believe he is incapable of learning. He is wired to gamble.

        Another co-worker a recent immigrant works very hard at 2 jobs to support his family, and made a modest income last year. He told me he paid over 1.5K in taxes last year. I told him to go to TD and open an e-series account and put $100 / month in an RRSP, then he would pay no tax at the end of the year. I even told him I would go and help him. When I explained to him that almost everyone lives to their means no matter how much they earn, he was truly amazed, and surprised. I explained the concept of pay yourself first, and he was truly inspired. He is someone who wan't given the financial education (as you call it) but is willing to learn.

        PS Sorry for the essay 😉 good thing you don't charge for blog-space..

        Cheers

        Dividend Ninja

  4. Hey Ninja!

    I'm glad to hear that you're helping other investors, and that some of the people are inspiring you by actually learning this stuff.

    You mentioned the guy who has to gamble, and I agree that some people are wired that way. Others are wired to believe that there have to be great market timers and financial advisors who can surely work their magic and beat simple portfolios of dividend paying stocks and indexes over time. It's a shame you couldn't put them in a cell and make them read ALL the literature to the contrary.

    But that's life.

    Great to hear about your immigrant friend who's obviously well on his way though!

  5. Jonathan says:

    Hi,

    I'm foreigner (not yet PR), working in Singapore. Im glad I found this site. I have limited knowledge in Investing and would like to know more. I'm married, no kids yet and Im 31. Is there any blog post for first time investor in this site? Sorry for this simple question, i just found this site only today.

  6. Hi Jonathan,

    I have a book that will be available in Singaporean book stores very soon. It starts right from the beginning, and gets you up to speed on what you'll need to know. I wrote it very clearly, assuming that the reader has very limited financial knowledge. I think it will help you a lot. On my site, many of the posts make assumptions that readers will be familiar with certain jargon, as you have probably noticed. But I am really glad that you found the site. The book, Millionaire Teacher, will be available in a couple of weeks at Kinokunia and Borders, as well as the other bookstores in Singapore.

  7. Tamas Simon says:

    Hi Andrew,

    I'm so glad I've found your site. My wife and I have been teaching internationally for the past 10 years, and financial advice is never too high on the agenda at faculty meetings… I am a beginner at investing, so I look forward to buying your book. As a non-US (EU) citizen, can I invest in US index funds, or do you think I should stick to Europe? (on a slightly different note…my Singaporean students constantly outperform their peers in Math, maybe I should turn to them for investing advice…:)

  8. Hey Tamas,

    You could set up something like this:

    1. Your home country stock market index

    2. A world stock market index (VT would be the ticker symbol)

    3. An international bond market index

    I think a home country index is a great idea for a large part of your stock market money. And you could divide your stock market money evenly with that index, and a world stock market index (which is comprised of U.S. and International stocks)

    Then you could cap it off with an international bond index.

    Where are you from? If you would like the ticker symbols for your home country index and the international bond market index, just let me know.

  9. Daniel says:

    Hi Andrew,

    I pre-ordered your book and can't wait to get it! I'm 32 and was clueless about investing. . but just started this year in a big way, trying to maximize my TFSA and RRSP contributions. . I've dived into this headfirst and have made one or two bad decisions that have put my whole portfolio in the red. . however I think I am learning quickly and might be able to sell some gold to at least hedge avoid most of this years losses.

    I absolutely love the simplicity of what you have found works best and I plan to simplify and safeproof my investments more and more according to this patter. . while looking forward to the extra free time it will give me!

    I was wondering. . Since you are all in indexes which don't pay dividends. . You are withdrawing capital from your investments to supplement your teaching income right? And how to you calculate from what index to withdraw from and how much to withdraw? Or are you just saving it all up as a nest egg and not enjoying your investments growth in the present?

    thanks

    Daniel

    • Hi Daniel,

      I hope you like the book…I think you will.

      I'm not selling any of my investments to supplement my teaching income. If I were, I would be selling off pieces of the indexes that have outperformed the others….simply continuing to rebalance while withdrawing, instead of rebalancing while adding.

      As for dividends, my exchange traded index funds all pay dividends (or interest, in the case of the bond fund).

      Currently, I receive more cash from my dividends and interest (each year) than I received earning a salary during my first few years of teaching.

      When I do retire, I probably won't need to sell anything to pay my expenses. Indexes pay dividends too. And I will likely live off those dividends.

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