Most stocks will cost you money. An even larger number make for lousy bets; instead of being rewarded for taking some risk, you'd likely be better off buying risk-free bonds. At least, that's the case in the US, said University of Arizona finance professor Hendrik Bessembinder in 2017, following a groundbreaking study examining the performance of almost 26,000 US stocks over a 90-year period.
It turns out this is not a US phenomenon. In fact, results are even worse outside America, according to a new Bessembinder study; all over the world, most stocks end up being money-losing investments. It sounds counterintuitive, given that stock markets have historically delivered the goods for long-term investors. However, Bessembinder’s latest study, Do Global Stocks Outperform US Treasury Bills? – which examines the performance of more than 61,000 global stocks between 1990 and 2018 – shows most stocks really are flops.
The median stock fell by 15 per cent over the period in question. Only 45 per cent made any gains. A large majority – 60 per cent – did worse than risk-free one-month US government bonds. It’s not that stock markets had a torrid time over the last three decades. In fact, they did just fine, generating $44.7 trillion for shareholders. As a result, you did quite nicely if you held a globally diversified equity portfolio, almost quadrupling your money.
The problem is that stock market returns are hopelessly lopsided, with indices driven higher due to a tiny minority of companies generating gargantuan returns. Apple has done more to enrich investors than any other company over the 29-year period. Including dividends, the company generated just over $1 trillion in wealth. Microsoft ($955 billion) is just behind, followed by Amazon ($697 billion), Google parent Alphabet ($529 billion) and Exxon Mobil ($516 billion).
Thirty-five of the top 50 wealth-creating companies are American, with the biggest non-US contributors including companies like Chinese internet giant Tencent (gains of $377 billion means it ranks ninth on the list), Nestlé (11th, $354 billion), Samsung (15th, $85 billion), European pharmaceutical giants Roche and Novartis (ranked 18th and 22nd respectively), China Mobile (28th, $220 billion), Toyota (43rd, $178 billion), HSBC (45th, $167 billion), LVMH Moet Hennessy Louis Vuitton (47th, $159 billion), and L'Oréal (48th, $156 billion), amongst others. Overall, only a tiny minority of stocks account for the bulk of investment returns. The aforementioned big five – Apple, Microsoft, Amazon, Alphabet and Exxon Mobil – accounted for more than 8 per cent of the $44.7 trillion in wealth generated by global stock markets over the last 29 years.
The best-performing 306 companies (just 0.5 per cent of the total) accounted for almost three-quarters of the wealth created by stock markets over the last 29 years. The best-performing 811 firms – 1.33 per cent of the total – accounted for the entire amount.
If one excludes the US from the global figures, the results are even more stark, with less than 1 per cent of companies accounting for the wealth created outside the US.
While a tiny number of stocks are huge winners, most stocks disappoint their investors. This is true of almost all countries; a majority of stocks underperformed one-month US government bonds in 35 of the 42 countries examined by Bessembinder. In 25 of the 42 countries, more than half of the individual stocks lost money.
Unsurprisingly, Greek investors fared worst – the median Greek stock lost three-quarters of its value – although investors might be surprised to see how hard stock-picking proved in other developed markets. In Australia, for example, the median stock lost almost half of its value, while the median stock in Germany lost 37 per cent of its value. Nevertheless, every national stock market (even Greece) gained over the period. In each country, diversified investors were rescued by the top performers. The top-performing stock accounted for a “substantial portion” of wealth creation in every single country.
For example, drinks giant Anheuser-Busch Inbev accounted for almost a third of wealth created in Belgium over the 29-year period. Samsung accounted for more than a quarter of stock market gains in South Korea, while the figures are also noticeably disproportionate in Switzerland (Nestlé, 22 per cent), the Netherlands (Royal Dutch Petroleum, 16 per cent), Hong Kong (Tencent, 13 per cent), France (oil giant Total, 8 per cent), Japan (Toyota, 8 per cent), and Germany (software firm SAP, 7 per cent).
Apple, despite creating more wealth than any other company in the world, accounted for a “more moderate” 3 per cent of wealth creation among US companies.
This is important research and equity investors need to understand its implications. Firstly, someone who takes a punt on an individual stock should not assume they will prosper if they hold on for long enough; the buy-and-hold approach works with diversified portfolios but not for most individual stocks.
Rather, if you buy a single stock, not only are you likely to underperform the broader stock market, you’re likely to underperform risk-free bonds. Secondly, it’s well known that most active funds underperform benchmark indices, something that is generally explained away by citing various factors such as high fees or lack of skill. However, even if there were no fees or expenses, and even if the fund manager is a genuinely knowledgeable fellow who puts in hours and hours of research, the odds are an active fund manager will underperform. Stock market indices are hugely reliant on a tiny number of super-stocks; trying to identify this handful of stocks in advance is like looking for a needle in a haystack. Thirdly, it’s clear that opting for a concentrated portfolio is a risky endeavour and that investors may underestimate how much diversification is required. Investors may instinctively assume that a 10-stock portfolio has a 50-50 shot at beating the market. However, the chances of a 10 or 20-stock portfolio containing the tiny number of super-stocks that drive index returns are remote.
Accordingly, the odds of a 10-stock portfolio beating the market are just 34 per cent, according to recent Vanguard research, which found that the more stocks you contain in your portfolio, the better your returns are likely to be.
Make a bundle
Of course, it’s not all bad for active investors. If you have real stock-picking talent, if you have a real investment edge that helps you identify tomorrow’s big winners, you can make a bundle. The results, as Bessembinder puts it, “highlight the degree to which successful stock selection can enhance wealth”. Still, the fact that only about 1 per cent of companies account for global stock market wealth creation should give investors pause for thought. On Wall Street, the phrase “it’s a stock-picker’s market” is often bandied about, the implication being indices may struggle in coming months or years and that investors need to place their faith in stock-pickers who will identify the companies that will hold their own and outperform.
While some periods are more conducive to active funds than others, Bessembinder’s findings suggest stock-pickers’ task is an inherently unenviable one.The research is clear: it’s never really a stock-picker’s market.