Is active investing worth it?

Traditional equity research / stock picking stuff is pretty much dead imo.

I’m an ‘advice investor’ in the sense that I make strategic and timing bets on the market as a whole. Do I want to rotate in/out of tech, and how much leverage do I want, or how much cash to keep on sidelines, etc. i beat the market during the bull run, but getting crushed this year. Over long term horizon will I outperform? TBD - but I’m for damn sure going to try rather than playing it safe with SPY/VOO (and dying before I become a multi millionaire)

but I don’t waste my time trying to find xyz value trap stock that’s trading at discounts to comps. Not worth the brain damage. May do some smaller bets on lotto plays I see on WSO every now and then but that’s gambling money, and I’m fine with the outcome 

If you believe in data, active investing is not likely to help you do better than the stock market.  I think, Benjamin Graham, the father of value investing,  late in his life, gave up on active investing.  It is kind of interesting that having lots professional experience and superior academic credentials still does help you do better than the stock market.  I am sure the hedge fund and private equity people will disagree but they are not going to show you any public data that supports the case for active investing.  

not to mention the mental cost of the emotional roller coaster that is active investing

TQQQ, UPRO, and SOXL

you can achieve financial independence either way, so do what makes the most sense to you. I personally do both depending upon the asset class. so far, I'm beating the market in the active parts I control, but if I lose that edge (which could very well be pure dumb luck), I've not no problems switching it all to index funds for my clients.

like aswath, I enjoy the process and feel better about knowing exactly what I own which allows me to sleep well at night (and the fact it's performed well is a bonus)

aswath talks about this here: https://aswathdamodaran.blogspot.com/2016/12/active-investing-rest-in-p…

final quote

Should you be an active investor or are you better off putting your money in index funds? The answer will depend on not only what you bring to the investment table in the resources but also on your personal make-up. I have long argued that there is no one investment philosophy that works for all investors but there is one that is just right for you, as an investor. In keeping with this philosophy of personalized investing, I think it behooves each of us, no matter how limited our investment experience, to try to address this question. To start this process, I will make the case for why I am an active investor, though I don’t think any you will or should care. I will begin by listing all the reasons that I will not give for investing actively. Since I use public information in financial statements and databases, my information is no better than anyone else’s. While my ego would like to push me towards believing that I can value companies better than others, that is a delusion that I gave up on a long time ago and it is one reason that I have always shared my valuation models with anyone who wants to use them. There is no secret ingredient or special sauce in them and anyone with a minimal modeling capacity, basic valuation knowledge and common sense can build similar models. 

So, why do I invest actively? First, I am lucky enough to be investing my own money, giving me a client who I understand and know. It is one of the strongest advantages that I have over a portfolio manager who manages other people’s money. Second, I have often described investing as an act of faith, faith in my capacity to value companies and faith that market prices will adjust to that value. I would like to believe that I have that faith, though it is constantly tested by adverse market movements. That said, I am not righteous, expecting to be rewarded for doing my homework or trusting in value. In fact, I have made peace with the possibility that at the end of my investing life, I could look back at the returns that I have made over my active investing lifetime and conclude that I could have done as well or better, investing in index funds. If that happens, I will not view the time that I spend analyzing and picking stocks as wasted since I have gained so much joy from the process. In short, if you don’t like markets and don’t enjoy the process of investing, my advice is that you put your money in index funds and spend your time on things that you truly enjoy doing!

There is one key point everyone here is missing regarding active investing. Leverage.

It’s pretty self explanatory but when you actively invest/trade, you can use leveraged positions. Returns amplified. However, be careful with leverage. It’s a risky game.

Don't think unless you're working directly in AM that it makes sense to individually pick stocks, no edge. Probably doesn't even make sense to invest in active funds as you have no idea which outperform (in U.S. only funds, only 15% outperform over long periods while internationally it's closer to 20-25% as the latter is more inefficient)

If you work in the industry at a top decile fund, then it makes more sense to stock pick / pick active funds. For the former, you're relying on an enormous body of research from a firm with a good process that's churned out strong returns on rolling 5yr / 10yr periods + lots of institutional memory at these funds that have been around for decades. With the latter, you can invest in your own funds but you're also aware of which funds you compete against and are also top tier -- and of those, which ones are more likely to have good process vs. luck. So you have a reasonable basis in both cases for making higher-conviction bets on certain stocks / funds. Otherwise just makes no sense

I think that active can be successful if you’re not closet indexing. Active works less well for mutual funds because many are closet indexers and trade often. If you’re making some concentrated bets you can do better. Also indexers in fixed income bluntly have underperformed.

The short answer - there is a high probability you're better off being passively invested.

The long answer...

This can be explained by Grossman-Stiglitz paradox.

The process of actively analyzing securities produces efficient prices, or so the story goes. If there is no active, prices can't be right. In a way, long run active management subsidizes passive management by efficiently pricing markets. We don't know what % of the market needs to be active to produce "efficient" prices, but it is clear there needs to be some level of analysis.

So why do people invest actively? Two ways you can take this....

1) Greed. People will do things that they are financially rewarded for. Investors can't help themselves when presented with a good sales pitch to "outperform", and people will happily collect fees to manage other peoples money. This is the most simple explanation. We are all simple creatures, everyone can be sold.

2) You can actually outperform. We hear about tons of famous investors becoming ridiculously rich by finding market "inefficiencies". Buffet, Simons, etc. They (in very different ways) found ways to earn excess returns than the market. 

Here is the problem....

Alpha decay. When people find out how to outperform, outperformance goes away. 

You’re singing my song. I was at a fund early in my career that had an inception to date alpha of maybe .4%. Then we charged nearly a 1% fee. The hustle was staying close to the index without going below it. It was an index plus strategy per se. Deep down it didn’t feel like the end investor got value out of the fees we charged. So off I went into something else. To this day I dollar cost average into low cost index funds and strengthen my skills in areas where a tangible benefit is probable.

When it comes to investing, you can control risk and fees. No one can control the return.