Savvy Investors Can Beat the Market
Contrary to popular belief, a significant minority of investors can and do beat the stock market.
"At
first glance, it would seem that a search for evidence that individual traders
outperform the market is not very promising," admits Tyler Shumway, associate
professor of finance.
Shumway and colleagues Joshua Coval of the Harvard Business School and David
Hirshleifer of Ohio State University examined nearly 17,000 individual accounts
at a national discount brokerage firm in which investors bought at least 25
stocks from 1990 to 1996.
They found that the top 10 percent of investors earn excess returns of 15 basis
points (a basis point is one one-hundredth of a percent) per day in the week
following a trade-which equates to an individual trader beating the market by
roughly 3 percentage points a month.
Shumway and his colleagues also found that about 20 percent of individual
investors are skilled in picking high-performing stocks-in other words, not just
due to luck. On the other hand, they found that traders among the bottom 10
percent of all investors place trades that can expect to lose up to 12 basis
points per day during the subsequent week (a loss of about 2.5 percent per
month).
The difference in returns for the top traders and those investors who fare
poorly diminishes after a one-month holding period. However, savvy investors who
employ a strategy of taking a long position on stocks that have performed well
to date and shorting stocks that have performed badly can expect excess returns
of 5 basis points per day over the entire holding period of the trade-on
average, a 10 percent gain, the study shows.
Read the paper at Shumway's Web site,
www.umich.edu/~shumway under the research link, or contact him at
shumway@umich.edu.