A Ridiculously Simple Way to Beat the Market
Beat the Stock Market in 3 Easy Steps
There is a lot of talk about beating the market these days. Academics will tell you that even trying to do it is a pointless waste of time. Nearly everyone else with an opinion--from writers and TV personalities to co-workers--seems to have a "fail safe" system for beating the market.
More than half of "market beating" systems involve hocus pocus, like chart reading and other market timing indicators, that just won't work over the long haul.
So most of us just do our best to make investment decisions based on the news we read about the economy, world events, and the stock market. But even then we are set up for failure; writers sensationalize headlines and draw conclusions from random events. The media designs headlines to exploit fear and greed so that we will continue reading articles, not so we will make wise investment decisions. In the end, all of these factors cause investors lose to the market and, ultimately, become convinced that the stock market is just a scam.
But what if I told you there was a ridiculously easy way to beat the stock market in three easy steps? That's right, you really can beat the market, and you don't need to have any experience in finance to do it. Here's how it works:
Step 1: Never Sell
A recent study showed that, over a 30 year period, a tremendous amount of stock gains happened in just ten days.
Investors who were out of the market during those ten days saw their returns drop nearly 4%!
My answer to this dilemma? Never sell. No seriously, stay fully invested in the market until retirement (or whatever your long-term financial goal is). I know what you're thinking: what if oil drops over the next six months, or what if next month's jobs report is a dud?
The truth is, the world is too complex to know which direction oil, the labor market, or even stocks will go in the short-run. Over any three-year period, anything can and will happen in the stock market.
However, when you look at a return of stocks over the long-run, it becomes clear that about the only thing that is certain is that stocks tend to go up (and beat inflation) over time.
Over the course of decades, all of the plunges on a 50-year stock market chart tend to smooth out. I think that says it all. Think of all the reasons people sold stocks in recent years--the S&P downgrade of the U.S. credit rating, Europe, the debt ceiling--they all seem catastrophic at first, but over time they fade into footnotes.
Step 2: Index
Sure, this is a retail stock website and (obviously) I love picking retail stocks. But the guaranteed way to take advantage of the markets long-term rewards is by buying stock index funds. Stock index funds are passively managed, low fee, funds that aim to simply match the market's returns. The diversification of an index fund provides added security for novice investors who may be tempted to sell during downturns.
Once you're comfortable with indexing, I do recommend that all investors take advantage of the remarkable upside of retail and consumer goods stock by allocating a small portion of their nest egg to a retail sector ETF.
Think of these funds as an index of all retail, which can add firepower to your portfolio in good times. For instance, the SPDR Retail Sector ETF has tripled the S&P's returns since its inception!
This simple 1-2 indexing punch is a great plan for most investors. If you are sure you have the temperament to hold individual retail stocks during sell-offs, then buying a few can be smart. However, most investors will find sticking to step 1 easier if their portfolio has the safety of diversified index funds.
Step 3: Buy On The Dips
Yes, market timing is a bad idea. That said, as long as you aren't looking to time your way "out of the market" (remember rule 1), there's nothing wrong with adding to your positions when the market pulls back sharply. If you never sell, stick to index funds, and simply buy more when the market declines, you should crush the market's returns.
A good strategy is to dollar cost average with index funds every month, rain or shine. Then, when the market pulls back 10% in a month, simply double your contribution for that month. Otherwise, try not to obsess over what your funds are doing until you near retirement.
Can It Be This Simple?
Can it be this easy to beat the market? Yes and no. Remember, your brain is going to make this relatively simple plan very hard. Unfortunately, through years of evolution, we've been hardwired to follow crowds, listen to experts, and be risk adverse. While these traits serve us well in many of life's pursuits, they make successful investing hard.
It's the same reason why so few investors have matched Warren Buffett's returns, even though his strategy is so plain-spoken simple. In theory, holding stocks for the long-haul makes sense. But when the rubber hits the road, we want to get rich quick and panic every time the market dips.
So this strategy will test your patience and temperament more than your IQ. That said, I believe that buying an S&P and retail index fund, adding to your position during dips, and never selling is one of the easiest ways to beat the market. It should work for you if you let it.