What is Stock Picking
Picking stocks is choosing to invest in an individual company. When you invest in a company you own a share of that company. The more shares you own the bigger percent owner of the company you become. For example, owning a share of Apple costs ~$180 and there are approximately 16 billion shares available for purchase. Each company has its own amount of outstanding shares available to purchase. The price of each share times how many shares exist determine the total value of the company. When you invest in a company you are thinking that the company’s future earnings are worth owning now.
Purchasing shares of a company is done via a brokerage account. Examples of brokerages you can use to begin your stock picking journey are Robin Hood, Webull, Charles Schwab, and Vanguard. The broker will take the money you deposit to them and purchase shares of any company you want to own. Within your brokerage account you can view the cash you have available for purchase and the shares of companies you own and the cash value of those shares on any given day. In the olden days of stock picking back in the 90’s a broker was actually a person you had to call and place an order. Today, in the electronic world, all the trading is done by computer. You don’t need to call an actual person any more.
Picking stocks is usually contrasted with investing in different kinds of funds. Funds are collections of stocks picked by professional money managers. The different kinds of funds include index funds, mutual funds, and exchange traded funds.
Benefits of Picking Stocks
Picking your own stocks can make you much more money than if you chose to invest your money into funds. For example, following the S&P 500 index fund you will average 12% annualized year over year growth. When picking your own stocks you can average 15% or higher year over year return. If you don’t think that the 3% difference is worth it let me show you the difference that 3% makes
Using the compound interest calculator from nerd wallet we can visualize the difference between 12% annualized return and 15% annualized return. Starting with an initial portfolio of $5,000 and 30 years of time and investment in the S&P 500 your investment will be worth $179,748 That is a pretty good deal on your investment, however just look at the difference that doing your own research can make. If you can manage an average of 15% year over year return your $5,000 would turn into $437,705 in 30 years.
This return rate is made possible by the other advantages of picking your own stock portfolio. You can decide your own diversification level or concentration of a specific stock. If you really believe in a company you can put more concentration in your portfolio on the company. While putting more concentration into stocks that are succeeding you can avoid the companies that are really under performing. The saying is that concentration builds wealth while diversification protects wealth.
Is Picking Stocks Luck?
Stock picking isn’t luck; it requires due diligence and discipline to achieve success. You might think that the 15% return rate is unachievable and that the 12% that the “expert” fund managers get is the best that is available. Retail investors actually have a few advantages over the “experts.”
The first advantage is that fund managers can only invest in a company once it gets enough recognition from analysts, and other top institutions. This can cause big institutions to lag behind retail in finding the next best company. Institutions won’t invest in that new product you found in your local Walmart until all the other institutions invest too. This gives retail ample time to invest before big money steps in.
The second advantage is that retail investors can be more bold than fund managers. Fund managers’ jobs are always uncertain and can be lost with one bad investment choice. For this reason they won’t take the chance on the risky company nobody knows about yet. Their job security looks better if they make a safe bet on a company that is already well known vs an up and coming stock. As the saying goes fortune favors the bold.
For example you liked to rent movies back in the early 2000s and tried a new service where you could rent movies by having them mailed to your house. This company is called Netflix, and they were competing with the biggest name, BlockBuster. As a retail investor you could see that Netflix was going to out compete BlockBuster because you liked using their service a lot better. A big institution wouldn’t take a chance on Netflix until they became big enough to be a safer choice. If you used Netflix in the early 2000s and decided to invest in it then and held it until now you would’ve averaged a 35% return on investment year over year. That is more than double the goal of 15% a year return.
Disadvantages of picking stocks
The disadvantages of picking your own stock include, time and effort, risk management, and may include stress. First you need to do research and spend time reading about companies. The time and effort spent on researching stocks can add up and take a toll on a person’s free time. There is the need to always be keeping up on the latest news of the companies you own and the companies you are researching.The higher reward for picking your stocks comes at the risk of being less diversified and picking the wrong companies. If you are spending all that time researching and still aren’t beating the “experts” why bother? You are putting your hard earned money into an investment and you want it to be worth your while. This higher risk can cause emotional stress through the ups and downs of the market volatility. You need to have the gut to be able to trust your thesis on a company and not panic sell at the first hint of the price going down.