Stocks Picking, Index Tracking Funds

Stocks Picking – Why losing

I have on many occasions explained in detail to friends that most of us aren’t able to really pick good stocks, maybe you get a few right and a few wrong but the net effect usually is unfavorable ie you sustain losses.

So why is this the case.

Now read below for some strategies that many fund managers engage for their daily portfolio management:

1. stock rotation in sector – buying a few strong players in a sector and then starting buying the weaker players, unload the weakest players first after a fast runup then the stronger players at the end
2. sector rotation – changing the theme industries from time to time based on macro views of the economy
3. zero hedge – buy one or two stronger players and short the rest, usually in a bear market
4. pair trading – buy one strong player, then stop buying and buy another strong player unloading those bought earlier, after a while reverse the trick.
5. valuation - when china is a hot pick, valuations can go for 25+ p.e., when it is out of favor, it is worth less than 10+ p.e., just a change in the perception of stock valuations can make major price differences.

If you do not understand the above or have never heard of it, then you are likely to lose your shirt on investments.

Most layman players do not have the time to run through all these and many buy on hunches, ie why when stocks tank, they stick to it and ran heavy losses. Another reason is they quit too early when the stocks are picking up and didnt earn enough profits to offset the losses.

Index Tracking Funds - Why is it worth

The easy way of investing is to buy indexed funds.

Many stock indexes are reviewed regularly and upgraded based on the market capitalization of each stock, if one loses too much of it's capitalization, it is thrown out of the index and a rising star brought in. There are many such cases both here locally  - PCCW, New World Developments and overseas - GM, Citibank, AIG

Never underestimate this self improving process, just ask yourself how many times have you reviewed your stock portfolio in the past and willing to throw out the bad apples. The reason you did not is because your portfolio is either skewed towards such mid cap stocks or too small so that throwing out the bad apple means heavy losses.

An index fund has the advantage of you are able to buy into with small sums but having the same edge as a large portfolio ie less concentration, therefore you wont be hit so hard with the bad apples.