|Simple (and complex) investment strategies
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Those who accept the efficient markets theory as true also believe that investors cannot expect to consistently beat the market -- a claim that many dispute and a big reason why actively managed portfolios remain popular.
"The biggest drawback -- if that's what you want to call it (to passive strategies) -- would be for someone who has a goal of outperforming the market. Because, really, actively managed strategies are the only way that you can do that," says Donaldson.
The allure of an active approach is its potential to beat the market. The flipside is that active strategies are risky and expensive because they involve more trading. Because of its relatively higher fees, actively managed funds have a tough time outperforming index funds.
These facts don't deter some investors. After all, mutual fund managers make a living betting on their investment prowess. Most employ fundamental analysis, though some use technical analysis as a guide to stock picking.
Fundamental analysis involves studying the entire picture of the broad economy, industries within the economy and then individual companies within each industry to assess its financial strength.
It's a fairly complicated endeavor. Dan Newhall, principal in Vanguard's Portfolio Review Department, cautions that the average individual investor may be better served by choosing an actively managed mutual fund rather than investing directly in stocks themselves.
With a mutual fund, individual investors get professional money management, diversification of investments, potentially lower costs, plus access to information, technology and teams of financial analysts.
That said, if individuals know what they're doing, they can invest in individual stocks and keep a diversified portfolio. One general rule of thumb to ensure that too many eggs don't get stuck in one basket is to devote no more than 3 percent of a portfolio to one individual stock.
Well aware of the risks, the hopeful securities investor bent on traditional fundamental analysis would begin investigating the economy and the various industries within the economy.
"What you want to think about in fundamental analysis basically is the relation of the firm to the macro economy," says Stephen Penman, George O. May professor of accounting at Columbia Business School and author of "Financial Statement Analysis and Security Valuation."
By macro, Penman refers to the big economic picture that takes into account lots of different variables, such as inflation, unemployment and industrial output. With the advent of the Internet, finding data on broad economic developments is much easier than in the pre-wired days of yore.
Well-known indicators are tracked, analyzed, dissected and quickly available for public consumption. For example, The White House regularly releases reports on economic indicators.
A few of the more common gauges of economic activity include the Consumer Price Index, the national Gross Domestic Product, short-term interest rates set by the Federal Reserve and housing starts.