In the US of eighty or a hundred years ago, one of the biggest problems facing individual investors was that information flowed slowly and was expensive and time-consuming to acquire. Also, the government regulations that now require uniform financial reporting standards and regular disclosure by companies of specified operational data didn’t yet exist. All this tilted the playing field sharply in the favor of the largest and wealthiest investors. For lack of anything better, everyone else was reduced to studying price and volume patterns in daily trading, trying to figure out what the rich and powerful were doing.
Today, investors in most world equity markets face the opposite problem. The industrial structure of any developed economy is now much more complex than in those days, and the reach of many economic agents is global, not just national. In addition to newspapers and trade journals, radio, TV, cable and above all, the internet, bombard us with much more information than any individual can hope to absorb and make sense of.
How do you cope?
Many professional investors, particularly among brokerage houses and hedge funds, have turned to computer analysis of fundamental or technical data to speed their decision-making. In both cases, they’ve approached the challenge of the plethora of information now available by finding ways to continue to collect all of it. In the second, they’ve returned to technology-enhanced versions of the primitive tools of several generations ago.
Others, mainly on the buy side, have built elaborate (and expensive) research organizations with analysts stationed in the major investing centers of the world. Again, this is to be able to collect all the data the world generates about investing. Brokers have tried this approach as well, but have laid off many of their most highly skilled (and most highly paid) analysts during the recession. The decentralized approach, although it sounds good on paper, risks creating an in-house bureaucracy and a resulting “designed by committee” portfolio that doesn’t stand for much of anything.
As individuals, however, this approach simply isn’t open to us. We’ll drown in a sea of data, taking our portfolios down to Davy Jones’ locker with us, if we try to follow everything. What do we do?
1. Figure out how much time you’re going to devote to your investments. If you’re going to spend, say, an hour a week and no more, stick with a passive approach.
When I was working, I thought I could spend 50 productive hours a week on my portfolio. More time than that and I would be too tired and would just be spinning my wheels.
Let’s say I spent half that time on general research, administrative stuff and interacting with clients. That leaves 25 hours.
My portfolio might have 60 positions in it (typical of growth investors; value investors usually have double that or more). The largest five would make or break my performance. The next 10 were stocks I thought would do well but didn’t have (yet) the same degree of confidence I did in the first five. I’d allocate my time at maybe three hours a week thinking/studying about the biggest positions and one hour each for the other ten. This is probably a good approximation for how informed the guy on the other side of the trade from you is.
My rule of thumb for individuals like us would be that we should expect to spend at least an hour a week on average on investments for every significant–meaning more than 2% of total assets–equity position we hold.
2. Focus. One of the occupational diseases of professional investors is thinking that you need to, or actually can, have an informed opinion about everything. That’s a terrible mistake. It spreads you much too thin. What you do need to have is a few areas (or even one) that you know a lot about. Myself, I like retail, hotels/casinos, and technology. Actually, it’s a little more specific than that. I like luxury goods, business/convention hotels, cellphones and semiconductors.
I find consumer-related industries particularly appealing because you can use the products, visit the stores, talk with salespeople. You can also get feedback from your friends and acquaintances. I like tech gadgets. As an investor, though, the IT industry reminds me of the oils, where I got my first investing experience. In both cases, I think, analysts make the mistake of spending all their time on the technical aspects of making the products rather than on who will buy them and how much will the customer pay. It makes some sense that they act this way, because, they’re mostly electrical or petroleum engineers. But this gives the generalist like me an advantage I arguably shouldn’t have.
You may have background, experience or interests that give you a special insight into an industry. This would be a natural area to focus on. In general, it’s much better to have one stock you know really well than a dozen that you’ve bought only because you got a “hot tip.”
3. Find (a few) reliable sources of information.
I like the Financial Times, the Economist and the business section of the New York Times. Sometimes the Los Angeles Times has interesting articles, especially either about the west coast or about Asia, but I usually only read it when a search engine brings me to the paper.
Once you’ve focused on an industry, government and trade group websites can be extremely useful. If you have access to a college research library, you can often find information there–with the help of a research librarian–that’s not widely known on Wall Street. Company websites, their annual reports and 10ks, are extremely important, too. And don’t forget to look at a company’s competitors’ filings/websites.
If you have access to research reports from traditional brokers, make sure you get the longer versions aimed at institutional investors, not the abbreviated versions brokers some time prepare for retail clients. As brokers have pared back on research as a cost-cutting measure, however, I find it’s harder and harder to locate good research reports.
On the minus side, I find the talking heads on TV to be pretty useless. I’ve come to like the Wall Street Journal‘s sports, and the paper has interesting gossip in it, but I no longer find it a useful investing tool.