A team of researchers at Fidelity set out to examine the behaviors of their best performing accounts. They wanted to identify the common behaviors of truly exceptional investors. What they found may surprise you.
When they interviewed the owners of these over-achieving accounts, here’s what they found, in order of the most impact on investment results:
- Low trading activity
- A clearly defined investment strategy or theme
- A preference for index funds and ETFs, rather than individual stocks and bonds
- A focus on controlling investment costs
- A preference for self-direction (DIY) over hiring a professional adviser
A recurring comment from these winning investors was that many of them had forgotten about the account altogether. They mostly avoided the complex strategies that are pushed by Wall Street types. It would seem that Zen (and a small dose of neglect) might be the greatest skill in an investor’s toolbox.
Another mutual fund giant, Vanguard, also examined the performance of accounts that had made no changes, versus those who traded actively. Sure enough, they found that the “no change” accounts handily outperformed the tinkerers.
Meir Statman cites research from Sweden showing that the busiest traders lose 4% of their account value each year to trading costs and poor timing. These results are consistent across the globe. Across 19 major stock exchanges, investors who made frequent changes trailed buy and hold investors by 1.5 percentage points per year.
Perhaps the best-known study on the damaging effects of over-trading also provides insight into gender-linked tendencies in trading behavior. Terrance Odean and Brad Barber, two of the fathers of behavioral finance, looked at the individual accounts of a large discount broker and found something that surprised them at the time.
The men in the study traded 45% more than the women, with single men out-trading their female counterparts by an incredible 67%. Barber and Odean attribute this greater activity to overconfidence, but whatever its psychological roots, it consistently hurt returns. As a result of overactivity, the average man in the study underperformed the average woman by 1.4 percentage points per year. Worse still, single men lagged single women by 2.3 percent – an incredible drag when compounded over an investment lifetime.
The tendency of women to outperform is not only seen in retail investors, however. Female hedge fund managers have consistently and soundly thumped their male colleagues, owing largely to the patience discussed above.
As LouAnn Lofton of the Motley Fool reports, “…funds managed by women have, since inception, returned an average 9.06%, compared to just 5.82% averaged by a weighted index of other hedge funds.
As if that outperformance weren’t impressive enough, the group also found that during the financial crisis of 2008, these women-managed funds weren’t hurt nearly as badly as the rest of the hedge fund universe, with their funds dropping 9.61% compared to the 19.03% suffered by other funds.”
Boys, it would seem, will be hyperactive boys, but few could have guessed the steep financial cost of actively trading in the market. At ZenInvestor, we believe that active investing has merit when used wisely. For top-performing investors, it turns out to be most profitable when it’s not very active at all.