It seems that everywhere I go, I find even more evidence that most investors should just buy and hold low-cost index funds. According to a piece in today's New York Times:

Stocks have been a great investment in the last 80 years, with an average return of about 10 percent a year. But have investors in the stock market done as well as stocks? Surprisingly, the answer is no. The average dollar invested in the stock market in those years has earned only about 8.6 percent a year.

According to a new paper from Ilia Dichev, the reason is simple: Most investors buy in at the tops, and sell at the bottoms. This is true, almost by definition. New highs require more money pouring in, and stocks plummet when investors rush for the exits.

Remember the early 2000's, when record money flowed into red hot internet funds, right before they tanked? While those funds may have shown impressive performance over a 5-year period, so much of the money came in at the top that the average investor's return was actually quite dismal.

The article concludes with a brilliant warning: "Trying to outguess the market is a sucker's game."

So what's an investor to do? Set up an account with a low-cost index fund, and invest whenever you can. Never try to time the market and enjoy the long-term performance that the market is almost certain to provide.

Why investors underperform their stocks originally appeared on BloggingStocks on Thu, 03 May 2007 17:43:00 EST. Please see our terms for use of feeds.