Beating the market isn’t necessarily hard. We don’t have to outperform everyone else. We just have to do better than the average. By picking individual stocks my investment returns have either matched or beaten the S&P/TSX Composite index every year since I started investing. 😀 But in today’s post I will explain why that doesn’t actually matter.
When Using Debt to Invest Pays Off
Most readers can recall that my Saskatchewan farmland value has been growing at incredible rates year after year. I’ve disclosed my stock performance many times in the past. And owning real estate in Metro Vancouver for the past 8 years has also helped to boost my net worth. However, beating the market is easy when leverage is used during a bull market cycle. Borrowing money to invest will always increase one’s investment gains, as long as the investment returns are higher than the cost to borrow, which luckily has been the case for me since I began investing. 😉
But what kind of returns would I be getting if I hadn’t used any financial leverage? Since I no longer hold any leveraged accounts at TD, there is no margin to exaggerate this account’s performance. 🙂 I have not been meticulously keeping track of my portfolio’s internal rate of return (IRR.) However, we can use the next best thing, which is a performance chart from TD.
Here’s a look at my non-leveraged portfolio for the past 3 years. It appears that my annual return was 11.57%. 🙂
Now let’s see the 5 year chart for the same portfolio. My annual gain appears to be 10.23%. 🙂
So even without using leverage, my RRSP and TFSA have performed very well relative to the blue-dotted line (TSX Composite index.) Does this mean I’m naturally gifted at picking stocks? Not necessarily. Since I hold U.S. stocks, as well as bonds, we can’t use the Canadian equity based TSX Composite index as a comparable benchmark. But that’s okay. 🙂 Frankly I’m not trying to beat any index with my investments. There is no equivalent index to compare my portfolio against.
Some people like the Weight Watchers diet, while others follow the South Beach diet. But there is no one diet fits all approach. As long as I’m doing what’s best for me and for my goals, (both financially and nutritionally) then I don’t have to compare myself with other standards out there.
Maybe it’s possible to create a custom investment benchmark for myself. But that would be very impractical. I would have to include small percentages of niche indexes, and then change the weighting when my personal asset allocation shifts. A benchmark like that would give me very little useful information anyway.
Understanding What I Own
So if I’m not trying to outperform index investors, then why do I like to actively choose individual stocks? The answer is simple. It’s because I want to understand what I’m buying before I buy it. 😀
The TSX Composite includes companies I’m not a big fan of, such as WestJet and Valeant Pharmaceuticals. As a long term investor who’s looking for capital growth for the next 30+ years, I don’t particularly like industries that have an unusually high level of bankruptcies over time. Warren Buffett once said that airlines are like “a death trap for investors.”
I wouldn’t touch Valeant either. Between all its debt and the FTC investigation this company profile just seems too risky for me. So although I’m sure WestJet and Valeant would be great choices for someone else, they would be terrible stocks for me to own based on my personal investment criteria. The advantage of being an active investor is I can choose exactly what goes into my portfolio, and leave out anything that doesn’t match up with my values. 🙂
When grocery shopping I always open the egg carton to check for any cracked eggs before putting it in my shopping basket. Understanding what I’m getting myself into before paying for something is a fundamental financial concept that I apply on a daily basis. I do this for most purchases I come across, big or small. So it seems natural for me to do the same for stocks. 😉 As investor Peter Lynch once said, “know what you own, and know why you own it.” This is how I can sleep well at night even during periods of market uncertainty.
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Random Useless Fact:
According to a U.S. survey, the average millennial is expected to take more than 20,000 selfies in his or her lifetime.
Very impressive!!
You make it seem really easy so I guess my question is why everyone isn’t doing it? It was my understanding that a huge majority of actively managed funds fail to outperform the average (yes, yes there are fees as well) so here’s my question. If you’ve been able to nearly double the returns compared to a benchmark index, what’s the reason for your success? Is it:
1) You are better at picking individual stocks than paid professionals
2) You have been making high-risk moves that have paid off that a professional manager wouldn’t have the balls (or management patience from higher up) to justify.
3) Luck ??????
Also, with returns like these, why aren’t ALL of your assets in stocks? I guess I’m skeptical of you being in the top 0.3% of investors as far at stock picking is concerned.
Just following up since you haven’t replied. There has to be more to Liquid’s stock picking than simply understanding the kinds of stocks to own based on a quote or what they like.
Hey, good questions. Not everyone is doing what I’m doing because most investors don’t believe they can beat the markets so they don’t even bother trying, and just automatically choose the indexing method. Out of the ones who do pick and choose individual companies to buy, most of them trade in and out of the market so they will incur a lot of commission and fees which will eat away at their gains. And for the investors who actually buy and hold individual stocks, most of them chase hot trends and go after small cap companies which are notoriously difficult to value and are highly speculative in nature. So when we think about it, there’s really only a small percentage of investors who have discipline, patience, objective perspectives, understanding of how to compare and value different stocks, spend the time to research, and pick well established stocks that have a long track record of revenue and earnings growth. And out of all the individual people I know who meet these criteria, most of them have had at least matched market performance, if not beat it. That’s not a fact. I’m just speaking anecdotally. It’s what I’ve personally seen. And it… Read more »
Hey thanks for getting back to me! This deserves its own post tbh. I can’t help but think that your post was basically bragging without much in the area of qualifiers to your massive success (which I would brag about too!!! Don’t fault you there)
I think that without these points in your response, someone could find this misleading but at the same time, I realize that you aren’t writing to the target audience of Joe Shmoe off the street.
Well excuse me.
It’s interesting that Buffett said that and recently bought a whole bunch of airline stocks
Yup. Buffett also said gold is a bad investment, but then he bought 130 million ounces of silver. Since both precious metals are commodities that generally move together that seems a bit odd to me. He also advocates that most people should invest in the index, but then he goes and buys IBM, lol. I understand what he means though.
My answer to your question of whether I compare my returns to an index is “sort of”. My portfolio consists of approximately two thirds Canadian stocks and one third non-Canadian, the vast majority of the latter group being US stocks. At the end of every year I will compare my returns to two-thirds of the TSX Total Return Index and one third of the S&P 500 Total Return Index. I agree with you that it is not necessary, and perhaps not even illustrative. I am certainly not consumed with whether or not I “beat” the index. Rather, I do it in part as a comparison as to what I might be invested in had I not chosen to be a dividend growth investor. I think it is important use the Total Return Index, because it includes reinvested dividends. To compare my returns simply to the TSX Composite or the S&P 500 would not properly account for reinvested dividends. Since I always reinvest the dividends I earn on my individual stocks, this makes it more of an apples to apples comparison. In any event, I certainly don’t consider it a necessary endeavour to compare investor returns against an index. I do… Read more »
Good point about reinvested dividends and total market returns. I also think that there is nothing special about a stock index. An index is probably not an accurate representation of the best stocks on the market. For example the S&P/TSX Composite index is made up of 250 stocks. But how do we know the individual people who chose those 250 stocks out of the possible 1500+ on the entire market have made the best picks? What if there’s a better 250 stock combination? Who decides? Some rich people in a boardroom? lol.
I compare my total return vs the S&P/TSX only for fun and see how it is going, but it isn’t a goal for me since I do value investing for the income, via dividend.
When I see on how much paid and next-year income progress year over year it, blows anyway any index.
It is better to set our own goal, income wise, year after year. After all, how goes our plan over 20/30 years is all that count.
I compare my portfolio to indexes for fun too. The best way to track personal progress is to compare with ourselves. 🙂
Very interesting!
I haven’t diverged much from index stocks yet, but if I were to, I’d probably focus more on a dividend portfolio with stocks from the Dividend Aristocrats. Maybe it’ll beat the index, maybe it won’t, but with extensive research, I think it’s possible to beat the market with a few simple picks.
That’s one of my main strategies. Most of my liquid portfolio is made of dividend growth stocks. They have been outperforming the market index for a long time in both Canada and the U.S. Hopefully the trend will continue.
Personally, I use dividend ETF as a benchmark just to “measure” my returns. My intention is not to beat the market but rather to make sure that stock picking by my own is still worth it compared to a dividend ETF that I wouldn’t have much to do for. So far, so good! 😉
Cheers,
Mike
Glad to hear it’s working out for you. 🙂
Wether i beat the market or not is secondary to wether my retirement goals are being met. If my goals are not being met it does no good to beat the market.
Right you are, Doug. 🙂 Unless an investor’s only goal is to beat the market, he should try to meet his goals rather than focus too much on what the index is doing.
Good point about your portfolio versus the index. Everyone’s portfolio is different and we don’t have to compare against any of the index out there. Instead of measuring against an index, I tend to set a benchmark return % for myself. As long as I beat the 10% mark for that year, I consider that year a success. I usually like to compare my performance to the S&P TSX index or the S&P 500, but that’s just for fun. The most important number is to grow my net worth by 10% every year.
10% is a great benchmark to hit. You should be able to double your money every 7 years or so.
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