(Un)American Pickers

First, a lesson on stock dispersion in investing.

Low stock dispersion means that stocks are generally moving in the same direction. High stock dispersion means that individual stocks are headed in more unpredictable directions, as has been the case so far in 2014.  While the so-called financial experts are always calling it a ‘stock picker’s market’ (because they make money on trading), they are louder about it during those periods of high dispersion.

If stocks have low dispersion, presumably an active stock picker should find it more difficult to beat a relative benchmark index.  Conversely, when stocks are acting more independent of one another, there should be more opportunity for skillful (or lucky) investors to outperform.  Of course, there is also a greater opportunity for the less skillful (or unlucky) investor to underperform.

A new study titled Dispersion:  Measuring Market Opportunity, by S&P Dow Jones, suggests there is no evidence to support the notion that stock picking is easier or better done when there is wide dispersion among individual stock returns.  In fact, the data suggest the probability that actively managed mutual funds will outperform the market (already a less than 50% chance after expenses) is no higher during periods of high dispersion than low dispersion.

It all makes sense.  Why should a greater percentage of active fund managers outperform during periods of high dispersion?  Their skill doesn't suddenly increase during these periods.

Money managers who masquerade as financial advisors have lots of marketing ploys they use when promoting their services, and saying it’s a ‘stock picker’s market’ is among the most used.   But the truth is the same as always – there’s no extra benefit to the guesswork of active management.   Use a passive, index-type approach to investing, and you’ll be farther ahead in the long run.