This isn’t merely because of a survivorship bias; bad stock-pickers leave the market and so only better ones remain. It’s also because experienced investors behave differently from newbies. They trade much less often - a fact found in earlier research; they are less likely to make the mistake of selling good performing shares and so don’t deprive themselves of momentum profits; they avoid high-profile new flotations and so save themselves from the IPO underperformance effect; and they prefer smaller, value stocks which often beat the market.
These findings by Harvard University’s John Campbell, Benjamin Ramish of the US Federal Reserve and Tarun Ramadorai at Said Business School in Oxford are based upon a study of over 40,000 Indian investors since 2004.
However, they found that investors don’t entirely learn from experience. Investors who had beaten the market in previous months were more likely to sell winners, hold very concentrated portfolios and trade a lot - mistakes which can be costly. This is consistent with a recent study of Dutch investors, which also found that good recent performance can cause dangerous overconfidence. Encouragingly, though, Professor Campbell and colleagues found that such giddiness doesn't last long, and investors regain their senses within around six months.
There is, though, something more worrying here. They found that although experienced investors do relatively well, the average retail investor underperforms the market. This is not an isolated finding. It corroborates a study by California-based economists Brad Barber and Terrance Odean who have shown that the typical retail investor around the world fails to match stock market indices.
This suggests that while retail investors do have a chance of doing OK, it is only after they have learned the hard way about how to invest well.
Ideally, of course, we wouldn't need to lose money to learn these lessons, but we could instead learn from studies such as these. Sadly, though, this might not happen. As Fyodor Dostoyevsky said: "No one is wise from another man’s woe."
