Individual investors are fully capable of becoming effective managers of their own assets. With the right degree of interest and discipline, anyone can stand a good chance to outperform most mutual funds and even ETFs when constructing a solid diversified investment portfolio.
After all, you have a considerable head start when taking into account the various fees and slippage (trading cost) associated with having somebody else in charge of your portfolio management.
Before we get started, there are two instances in which we advise against taking charge of your investments.
- Lack of discipline: If you are uncertain as to whether you will be able to stick to your game plan – assuming it is solid – then you should leave somebody else in charge. Trading on a hot tip or when the mood strikes you is not the winning strategy. Moreover, once in place an investor has to monitor her/his portfolio. Our Ziggma tools go a long way to helping you do this but it is you who ultimately has to call the shots.
- Small portfolios: If your total investable assets do not suffice to build a diversified portfolio with no fewer than 10 securities in order to provide a sufficient degree of risk mitigation, then we highly recommend starting of using ETFs.
If the above does not apply to you, active, self-directed and well-informed investing has several tremendous advantages:
The average mutual fund expense ratio represents a 1.25% annual drag on portfolio performance; certain more focused ETF still charge up to 1%. It may not sound like much at first, but over the long term there is clearly a substantial drag, particularly when factoring in in compounding. Yes, large index ETFs come at a much lower cost. But the issue we take with large index ETFs is that one ends up owning also the lemons.
There are many regulatory, organizational and legal constraints that restrict institutional fund managers regarding the ownership of certain securities. These factors can even impact the timing of their transactions. Just think of a large number of redemption requests forcing a fund manager to make ill-timed sales. As a result, institutional investors will look for highly liquid securities — that can be traded quickly without distorting the prices. Naturally, this bias limits them to the largest 1,000 to 2,000 companies. As it turns out, though, he best long-term returns have come from investing in smaller stocks.
Another important advantage of managing your own portfolio is the ability to time trades to provide tax benefits. Most mutual funds are focused on pretax returns and may saddle their investors with a substantial annual capital gains tax bill, even if they have not held the fund for long or sold any of its shares. Mutual funds must distribute realized gains and interest or dividend income to their shareholders every calendar year. If you hold shares in a taxable account, you are required to pay taxes on mutual fund distributions, whether the distributions are paid out in cash or reinvested in additional shares. If you manage your own portfolio, you control which stocks are sold and when. You can even look at your holdings at the end of the year and do some selective tax-loss harvesting.
- Ethical considerations
More and more investor apply ethical standards to their investing, for instance they may want to stay away from cigarette manufacturers, arms producers or other questionably sectors. The best way to do this properly is by taking investment decisions into one’s own hands. Yes, there are funds with ethics guidelines, but then we are back at the cost issue. And chances are you will probably find it hard to be in full agreement with these managers.
- Intellectual challenge and competition
Finally, let us not discount the intellectual challenge consisting of learning about new companies and expanding our scope of competence. Also, training one’s ability to assimilate a large amount of information in order to draw valuable conclusions from it is not only useful for investing but for many other realms of life as well.
Investments in securities carry risks, including the risk of losing one’s entire investment. The opinions expressed within this blog post are as of the date of publication and are provided for informational purposes only. Content will not be updated after publication and should not be considered current after the publication date. All opinions are subject to change without notice and due to changes in the market or economic conditions may not necessarily come to pass. Nothing contained herein should be construed as a comprehensive statement of the matters discussed, considered investment, financial, legal, or tax advice, or a recommendation to buy or sell any securities, and no investment decision should be made based solely on any information provided herein.