You Can't Beat the Pros at Their Game

 | Oct 08, 2012 | 3:30 PM EDT
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In addition to the sports explosion around my house this weekend, I had the chance on Saturday to spend a few hours at a gathering of business and professional folks at a networking event. My wife had a table at the event, so I tagged along to see what I could learn and who I could meet. One small group gathered around the coffee table talking about markets, and I wandered over and joined. Any time I join one of these conversations, I listen and grunt a lot without offering too much commentary. I view it as a learning experience -- and what I learned this week is all too consistent with what I have taken away from similar gatherings.

This was a group of business owners and professionals, not full-time investors or traders. They are not in front of the screen with sophisticated tools to evaluate short-term market moves. One gentleman was bragging that he "figured out" that billionaire investor David Einhorn was not going to talk about Herbalife (HLF) at last week's Value Investing Congress, and that he had made a few hundred bucks by buying the stock and flipping it later in the week. Another bemoaned the fact that he thought the employment report would be really weak, and bought a double-inverse ETF and lost several hundred Friday.

The conversation went on, and I stood listening to this group of investors talk about the stocks they owned and traded. There was much talk of Apple (AAPL) and Google (GOOG) and how third-quarter earnings would look for these tech giants. The prospects for local favorites Darden (DRI) and Disney (DIS) were mentioned, as well. I heard talk of the same popular stocks you see on television every day, as well as lots of chatter about breakouts, trendlines and such. I have been a part of this discussion a million times, it seems, and it is always the same.

It appears individual investors have a habit of giving up all the advantages they have to play a game they cannot win. Figuring out what David Einhorn may or may not do, and trying to front-run, is a loser's game. If he had presented Herbalife, that stock would have tumbled, much as Chipotle (CMG) did that day. Also, what makes anyone think that, while running a business, paying taxes, doing regulatory filings, making it to the kid's soccer game and remembering your wife's birthday, one can successfully trade a data release? There is an army of economists with super computers trying to guess the number, and even they usually get it wrong. Short-term trading of the hot stocks puts you in the lion's den against the professionals -- and you are not the lion.

The commercials from brokerages and advisory services lead individuals to believe they can compete in the trading arena. But odds are that you cannot. Successful traders are immersed in the markets as a full-time profession. They have tools and capabilities that you simply do not. Even so, more traders fail than succeed. Trading is not an easy game that can be won by part-timers.

As investors, however, individuals have an enormous edge. We do not have an institutional mandate that limits what stocks we can buy or what percentage of our accounts must be invested in specific asset classes. No one is going to criticize us if we fail to win the quarterly performance game. We do not run the risk of getting fired for having a stock in our portfolio that no one has ever heard of. No one is going to search our quarterly reports to make sure we own the popular, most recently successful stocks. We have the luxury of not having to care what other people think of our investments.

We have the luxury of waiting. We do not have to play just because the casino happens to be open on a particular day. We can wait until we see the conditions that put the odds of investment success in our favor. We do not have to have an opinion on the next series of economic data, but we can react to extreme market reactions to any data set that tips pricing and valuation in our favor. We can buy stocks in companies that are too small for the big funds, or too unpopular for most fund managers to buy.

But trying to play the same game the professional do is a losing game for individuals. Trading the way your brokerage firm wants you to trade will make them very happy, but I doubt it will do much for you in the long run. Invest in sound businesses at good prices and hold for long periods of time. Trade less and hold longer. Worry more about long-term profits and less about short-term bragging rights, and you can handily beat the returns achieved by the professionals.

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