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Strategies & Market Trends : Gorilla and King Portfolio Candidates -- Ignore unavailable to you. Want to Upgrade?

To: alanrs who wrote (53701)	3/22/2003 3:10:56 PM
From: alanrs	Respond to of 54805

I know this isn't the appropriate forum for this, but here are two articles I've run across recently that bear on investing that I found interesting. The second one-linked only-particularly speaks to the limitations of numbers crunching and valuation only approaches. FWIW ARS And yes, I find the gorilla game theory useful to me. Those who don't, probably shouldn't use it. IMHO STRATEGIES You Can Beat the Market? A Study Says 1 in 5 Can By MARK HULBERT A NEW study has found that as many as 20 percent of investors may be able to regularly pick stocks that beat the market. Most previous studies have emphasized the inability of the average investor to outperform stocks in general, though some researchers have conceded that some people can do so over a given period - sometimes, for many years. Still, researchers have generally assumed that the percentage of investors who can do this consistently is very small. The new study, however, has found that assumption to be wrong. It was conducted by three finance professors - Joshua D. Coval of the Harvard Business School, David A. Hirshleifer of Ohio State University and Tyler G. Shumway of the University of Michigan - and has been circulating since January as an academic working paper (http://papers.ssrn.com/sol3/papers.cfm?abstract_id=364000). The professors reached their conclusion after examining a database containing the complete trading histories of more than 110,000 individual accounts at a national discount brokerage firm. (The professors would not disclose the name of the firm; they did say that the names of the account holders were not included in the database.) The database covered trading from the beginning of 1990 through November 1996. But don't some investors beat the market through luck alone? To deal with that possibility, the professors conducted a series of statistical tests. They were less interested in investors whose cumulative performance beat the market, because chance can play a large role over such a period. Instead, they looked for those whose stock picks repeatedly surpassed the market average. The study focused on nearly 17,000 accounts in which investors had bought at least 25 stocks - an amount large enough to give the researchers confidence that any outperformance was not a result of mere chance. The findings were also adjusted for risk, to ensure that investors had not beaten the market simply by taking on greater risk in a period when stocks generally were rising. After considering these factors, the professors found that about one-fifth of these frequent traders had genuine stock-picking ability. In that group, the average stock gained 44 percent a year, annualized, over this period, versus 14.5 percent for the Wilshire 5000. The professors saw little evidence of stock-picking ability among most of the other investors. Though their average stock slightly beat the market, the professors found that the margin of outperformance was not enough to pay commissions and bid-asked spreads. In other words, a large majority of investors would still be better off investing in an index fund. About 10 percent of the active traders stood out because their stock picks consistently underperformed the market - reflecting what the professors called "negative ability." The average stock picked by this group lost 23 percent, annualized. These traders clearly would improve their returns by investing in an index fund. HOW can the research help you know if you are part of the elite stock-picking group - that top 20 percent - and whether you should keep choosing your own stocks? That is difficult, because the study used complex statistical tests to determine genuine ability. But Professor Coval suggests this test, while not perfect, offers at least a tentative answer: First, compare each of your 25 most recent stock picks to its appropriate index, being careful to find a benchmark that matches its market capitalization and value or growth characteristics. If you find that at least 18 of those 25 stocks have outperformed their benchmarks over the time you have held them - and that the 25 stocks' average return beats that of their benchmarks - you probably have what it takes to beat the market. business2.com