Does it make you envious when you hear the trading talk from the big institutional money managers? How about the rants of Jim Cramer on CNBC? Think they have an advantage that you don’t because they are on Wall Street?
Sure, the short-term traders – the ones who scalp a stock for a few cents – or the black-box guys with their algorithms, add volatility and, for many serious investors, a reason to not invest. But for the rest of us, the ones who see owning stocks and bonds as a logical, time-proven way to accumulate or preserve wealth, there are advantages that the “big boys” don’t have. Let’s look at how some of them can enable you to outperform the gurus.
First, we look at performance in a meaningful way.
The Wall Street types are increasingly hell bent on short term performance – day-to-day, week-to-week, quarter-to-quarter – that is usually measured against an index, most often the Standard & Poor’s 500.
In the real world, very few individuals should measure performance against an individual index. It is much more meaningful to establish a rate of return that will get you from where you are today to where you want to be at some future date and to then allocate your investments in a manner that is consistent with your risk tolerance, while doing so with the least amount of risk.
If you have done those things, that’s great. Now, what are the advantages you have over the big money pools?
1. You are not restricted to large capitalization companies. Large pools of investments, the billion-dollar types, because of their size and impact on prices when buying or selling, are generally not able to invest in the companies with smaller capitalizations. You can easily own issues of all sizes without impacting the pricing mechanism. It’s sort of like playing a round of golf with a full set of clubs instead of just a driver.
2. You can change your portfolio construction if your financial circumstances change. A large pool, serving thousands of clients must operate on a one-size-fits-all basis.
3. Want to go to a defensive cash position? No problem. You should be able to liquidate in minutes. The big boys are generally hindered by written policies that can require them to stay fully invested or not exceed a pre-established maximum cash level.
4. You call the shots when planning for tax minimization, taking gains or losses when you, not a distant portfolio manager, determine they will best serve you.
5. There are no secrets or surprises about what’s in your portfolio. You make the trades and can see – and change, if necessary – your holdings daily. With the big pools, you will normally find out well after the fact what has been bought or sold and what the portfolios hold. Is there an industry or company you prefer to not own? Don’t buy it.
6. Your expense ratio is going to be much lower, as you won’t have legal, accounting or custodial expenses that eat into your total return. And it’s not likely that you will pay yourself a sales commission, management fee or a “trail fee.”
7. In a large pool, whether a mutual fund or mega manager, investors have no idea who is managing their monies. When it’s you and your broker and a smaller money manager, you not only know the folks that are working for you, you can actually talk with them.
8. Last, but most important, is the fact that the portfolio you construct is uniquely yours. It’s designed for your needs, goals and risk tolerance. So your performance, as we discussed earlier, is not measured against an index but instead in terms of staying on track to meet your targeted rate of return.
But what are the potential negatives?
1. You have to do your homework. Know what your asset allocation should be for your risk tolerance. Determine the best way to implement that allocation, whether individual stocks, bonds, cash reserves or even exchange-traded funds – the new darlings of the institutions.
2. You have to have the discipline to not let your emotions cloud your decision-making process.
3. You must be patient, as serious long-term investing will have its ups and downs. No portfolio goes steadily up without setbacks.
Think through the positives and the negatives and be honest with yourself in deciding if you can take advantage of the positives and deal with the potential negatives.
Clark Davis is a 37-year investment veteran and CEO of St. Louis Investment Advisors, a specialized money-management company. He can be reached at email@example.com.