Picking Stocks | Common Sense Investing | Summary and Q&A

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December 15, 2018
by
Ben Felix
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Picking Stocks | Common Sense Investing

TL;DR

Owning individual stocks is riskier than people think; stock prices are random, past performance is not indicative of future performance, and the majority of individual stocks underperform the market.

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Key Insights

  • 🤞 Stock prices are random, and success in speculating is often attributed to luck.
  • 🧑‍🤝‍🧑 Biases like familiarity, overconfidence, and the endowment effect can lead people to irrationally hold positions in individual stocks, especially if they have received equity packages from their employer.
  • 🛩ī¸ The majority of individual stocks have underperformed the market, with only a small percentage outperforming Treasury Bills.

Transcript

  • Today I want to talk to you about owning individual stocks. I know, I'm not going to tell you how to do it successfully. This is not that kind of channel. I have talked in past videos about the difference between systematic and non-systematic risk. Systematic risk is a risk that cannot be diversified away. Market risk, is a systematic risk. As ar... Read More

Questions & Answers

Q: What is the difference between systematic and non-systematic risk?

Systematic risk refers to risks that cannot be diversified away, such as market risk. Non-systematic risk refers to risks that can be easily diversified away, like individual stock or bond risk.

Q: Why do people still choose to hold large positions in individual stocks?

People hold large positions in individual stocks due to biases like familiarity with their employer, overconfidence, and an illusion of control over the stock's outcome.

Q: Is it rational to hold onto an individual stock if it has significantly increased in value?

No, it is not rational. The endowment effect can lead people to be less willing to part with an asset they already own, even if they would not buy more at the current price.

Q: How have the majority of individual stocks performed historically?

Historical data shows that the vast majority of individual stocks have underperformed the market and have had negative absolute returns. Only a small percentage of stocks have outperformed Treasury Bills.

Summary & Key Takeaways

  • Systematic risks, such as market risk, cannot be diversified away and are compensated risks. Non-systematic risks, like individual stock or bond risk, can be easily diversified away and are not compensated risks.

  • People often hold large positions in individual stocks due to biases like familiarity, overconfidence, the endowment effect, and an illusion of control.

  • Historical data shows that the majority of individual stocks have underperformed the market, with a significant percentage experiencing catastrophic losses of 70% or more from their peak value.

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