Beat the market vs. capture the market
Posted February 4, 2012on:
Last month, I was approached by a plastic surgeon whose money was with Morgan Stanley Smith Barney. He was looking for someone who could beat the market: not just promise to beat the market, like his financial advisor, but actually deliver.
I told him that I can’t beat the market, I can only help him capture the market. I could see a wisp of disappointment flash across his face.
The market can be thought of as the collective wisdom of all participants. To beat the market I must be smarter than all of them combined. I know I am not that smart.
Capturing the market is nothing to sneeze at. Look at the table above (source: DALBAR, inc.) that compares the 20-year returns of the S&P 500 and the average equity investor. You will find that the equity investor lags the market by a huge margin consistently.
Take the 2010 entry for example. From 1991 to 2010, the S&P 500 returned 9.14% annualized, while the average equity investor during the same period only earned 3.17% annualized. The average investor did that by timing the market, picking hot stocks, and chasing hot money managers, etc.; all the things that generally lead to “buy high, sell low”.
If those investors had been my clients, I would have made sure them think twice before they shot from the hip, and they would have captured most of the missing returns – 5.31% annualized. That is 170% more money in 20 years!
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