Unhedged: An ode to stock picking

0:00This episode is brought to you by Hard Lessons, a Morgan Stanley podcast. Iconic investors like Stan Druckenmiller, John Gray, and Rick Reeder break down calls that worked. I knew that this stock would go up for at least two or three years and go up a lot. Ones that didn't. I quite frankly thought the company could have reversed course. They didn't. And what they learned in between. When you buy everything and it goes up, it doesn't train you to be a great investor. It's these hard lessons that make all the difference. Listen to Hard Lessons wherever you get your podcasts. Hey guys, it's Mark.

0:31If you're wondering why we've slipped this bonus episode into your podcast feed, well, here's the thing. The FT runs a regular stock picking competition. It's open to all FT subscribers above the age of 18. You got to be an adult. And over a number of weeks, you can find out how good you are at predicting which company share prices will perform best. It's a bit like fantasy football, but for the stock market and without all the injuries. The latest competition launches this Monday, October 5th. And if that's piqued your interest, keep listening, because earlier this week, my colleagues Katie Martin and Rob Armstrong spoke to the man behind the competition for an episode of our sister podcast, Unhedged.

1:08That's the episode I'm about to play for you. It has some tips on common mistakes to avoid, the surprising story of the most recent competition winner, plus a discussion on why stock picking has fallen out of fashion in real world markets. So listen on for that. And if you want to sign up for the latest competition, check out the show notes. Enjoy.

1:25Rob Armstrong: Picking stocks is the darkest of dark arts. So dark, in fact, that it's probably best treated as a game. By far, the easiest way to invest in stock markets is to spread your bets and keep your costs low. That's not investment advice, it's just kind of common sense. So a lot of investors, retail and professional, just buy dead simple funds and products that track big indices and national markets. That's relatively new though. Back in the day, the noble path was to identify individual stocks that you thought were onto a winner and bet on them. It's old school and for many fund managers, it's been a road to admiration and riches.

2:08Rob Armstrong: But man, it is hard. Luckily, the FT has an online game where you can pretend to be a fancy stock picking investor. It's like being a hedge fund manager, but without the Ferrari or the thousand euro loafers. So today on the show, how have our readers stacked up? And in real life, is this whole thing really worth it? This is Unhedged, the markets and finance podcast in the Financial Times. I'm Katie Martin, a markets columnist in the control room of FTHQ in London. Joining me down the line, fresh from topping up his levels of Britishness over here last week, is the big fella, Rob Armstrong. Rob, say hello.

2:49Hello.

2:50Rob Armstrong: I knew you were going to do that. That's me with my Britishness levels topped up. You sound much cleverer. But also, with me in the studio is the affable Nathan Brooker from the FT's money section, which, unlike bloviators like me and Rob, actually helps people figure out what to do with their money. Hi. I wouldn't go quite that far. Nathan, you're doing God's work. with the money section of the paper and indeed with being here today. Thank you very much. So the stock picking game. I have a love-hate relationship with the stock picking game. Mostly hate. So back in the day with this game, when it was a bit more analogue, you pick five stocks, you bet on them or against them, and you leave them for a whole year.

3:34Rob Armstrong: At the end of that period, you see who's very clever and who's a giant idiot. It was open to FT people and to everybody else. Anyway, I was the giant idiot. I came almost last, which was a little bit embarrassing. Anyway. My experience is broadly similar. Like the only way I can have any chance at doing well in that contest is just by piling on the risk, which means it's like death or glory. Right. Either I come in almost last or almost first. Yes. And there's nowhere in between. A strong indicator of my lack of skill. Yes. Well, I chose death. Anyway, that's a whole other story. Nathan, the game has been sexed up, man.

4:15Rob Armstrong: It's got all new bells and whistles. Tell us about it. So the last game, as you rightly say, was a pretty rudimentary affair. You pick five stocks. You could go short or long, but that's about it. This new game, we started it in June. It's much more hands-on. You can pick between five and 20 stocks. You can vary the weights, but crucially, you can trade as many times as you like. So if the last game was a bit like a marathon, the new game is not exactly a sprint. It's more like a kind of high octane egg and spoon race. And so you just put the piece out the other day about how this competition went.

4:55Rob Armstrong: I think it's quite an interesting insight into the real life experience, actually, of being a fund manager. Because as you say, it runs for, what was it, nine or ten weeks? Eight or nine weeks, depending on the season. Yeah. And you can put in it any stocks from like a bunch of developed markets. Yeah, all the major markets from America, Europe and the FTSE 250. Yeah. And how many people played? 13 ,000 people signed up. Ooh. So how do people do? What do people bet on? What do they bet against? And where do people manage to make themselves look almost as silly as me? Well, this time you can't go short.

5:31You can only bet long. Right. So that removes a big reason why you came 1 ,360th out of 1 ,364th. Sorry, I thought it would be journalistically remiss of me not to bring up the actual numbers from the 2024 competition. But you did dominate those other four people, Katie.

5:54Rob Armstrong: Yeah, I really put a shift in. But so you wrote about the results of this thing in the weekend section the other day, and you led on the story of a player of the game called Woody 5.0. This is a very cautionary tale, right? So tell us what happened to poor old Woody 5.0. Yeah, so as Rob was alluding to, it's kind of a truth universally acknowledged, right, that you cannot rely on fundamental analysis to win a stock picking game. You are absolutely encouraged to treat the stock market like it is Caesar's Palace. You take big punts on high beta stocks and just hope they come off. So the high risk stuff just go like all in.

6:34All in. Do not over diversify. Keep quite concentrated and just go for it. And Woody 5.0, it's not that he did that, but he traded a lot. And he was incredible. He came out of the traps at lightning speed. By week three, he had the best week in the game. By week four, he was top of the leaderboard. and he just seemed to think one or two steps ahead of everyone else in the game. And then about nine or ten days before the end of the competition, he had a bit of a wobble. Slipped to second and then he goes on a frenzy. He's buying in investment trusts. He's taking them out again immediately. He buys in airlines.

7:17He takes those out immediately. He buys in microchips. He'd sold all of his microchips like the week before. So he is just swinging punches. and he slips from second to fourth to seventh and ends up in 387th place. And I was talking to the veteran fund manager, Simon Everston, who's also a fantastic FT columnist for money, and he chuckled when he heard this and he said, yeah, sounds like the kind of behaviour that brought down Barings Bank.

7:44Rob Armstrong: Yeah, yeah. I mean, Rob, from what we've heard, what are a few of the mistakes that Woody 5.0 made with his portfolio here? Well, one of the totally classic behavioral errors people make is that they let the past matter to their trading today. So if you were number one last week and things start to go wrong, you should trade exactly the same way as if you were number 380 and you'd been doing better and better. Right. The history is gone. Whatever money you have gained or lost yesterday, that's irrelevant. You have to look at your portfolio every morning and say, is this the right portfolio for whatever my objectives are?

8:34So learn from the past, then forget it is rule number one. And what you see Woody 5.0 do there is like, I was great yesterday. I'm slipping. Now I have to trade even harder. So that's an absolutely classic mistake. The other thing is trading is dangerous.

8:54Rob Armstrong: Just don't do it. Just don't do it. Like over-trading is the thing that kills professional and amateur fund managers all the time. The really great thing about it is it's kind of like an Aesop's fable because if he's the hare in the tail, there's a tortoise as well. Ah. So his name is Swapnilin Goli. Aha. So he's a 40-year-old supermarket store manager from Surrey. I love this. And he is big on fundamental analysis. He reads everything he can by Charlie Munger or Warren Buffett or Peter Lynch, all those guys. And he loves looking at earnings reports and finding companies which he thinks have got really big wide moats or high discounted free cash flow or good return on capital investment.

9:40And he picks five stocks. He picks Microsoft, Cognizant, Accenture. and he picks a couple of software-as-a-service stocks, Adobe and Salesforce, and they were trading at multi-year lows when he buys them because they'd just gone through the SaaSpocalypse, if you remember that period.

9:57Rob Armstrong: Yeah, anything that was software-as-a-service, anything that was SaaS got sassed pretty badly at a certain point earlier this year. Anyway, as everyone thinks, maybe AI isn't going to make these companies obsolete overnight. Yeah. Their share price recovers. And so Swapnil slowly climbs up the leaderboard and at midnight on August the 7th, he finishes in the top spot and he claims the cash prize. Swapnil, my man, my guy, what are you doing managing a supermarket in Surrey? You should be managing other people's money for a living. This is good stuff. Let me just say, though, that depending on financial analysis and fundamental analysis and winning a nine-week contest, It's very surprising.

10:51Fundamental analysis should not work over that time period. That's not to say his idea wasn't a brilliant idea. It sounds like his core idea was these are excellent businesses. They are caught up in this emotional maelstrom surrounding AI. They've become too cheap. I want to own them. That sounds very intelligent to me. But you can have a very intelligent idea and wait years for it to pay off. And his very intelligent idea paid off in two months. And that just doesn't happen very much. Right.

11:29Rob Armstrong: nonetheless I'm backing the guy this is good stuff but look probably one thing that makes it easier for people who've got that sort of approach is it's just a game you're not playing with real money and that does you know I write about people who manage other people's money all the time and genuinely I couldn't hack it because like I can be right or wrong about stuff Rob is frequently wrong about stuff of course but we're not looking after somebody else's money if I lose my own fine somebody else says I really couldn't hack it but it leads you to an interesting point which is about you know active stock management is in decline the vast majority of money that's sitting in stock markets is in passive funds right so it tracks an index or whatever but you're not picking out necessarily individual names I mean I just feel like you know heaven knows I've written this story myself, which it's time for active fund management to make a comeback.

12:25Rob Armstrong: And it just sort of doesn't happen. I mean, like, Rob, do you feel like the whole thing is kind of dying? There are less classic active stock pickers now than there has ever been. And I just think, especially in large cap stocks, it's too competitive and too efficient. It's just incredibly hard to outperform over time. S &P Global puts out this report every year about this very thing. Basically, are fund managers, is their success persistent? Like everybody knows, you can have one good year, but can you have five in a row? And I'll just read from the latest S &P report. With the exception of small cap funds, none of the top quartile funds within all reported domestic equity categories from 2021 remained in the top quartile through 2025.

13:18So zero people had performance that was persistent over four years. And it is a little better at the small cap. As you get into weirder niches, there's more inefficiencies for people to exploit. But man, And with the big names, if you're trading like Microsoft and Coca-Cola, I wish you the best of luck.

13:42Rob Armstrong: Yes. Thoughts and prayers. I mean, there's a similar set of data from Morningstar, which does kind of fund data. And they look at the success rate of an active fund that's picking stocks. Does it outperform a passive index? Anyway, you'd be surprised to hear the answer is. It's only 25 % of active funds that can do that over a period of a decade. So I don't know, like, you know, Nathan, when you're talking to people about pension strategies and about their personal wealth, it's a very romantic idea to think you can find that one fund manager who can really knock it out of the park. But are people interested in taking that risk anymore, do you think?

14:21I mean, I think, as you rightly say, that number of people who are willing to take that risk is decreasing. They look at the passive funds, they look how cheap they are. And they think the stock market has been on a tear in the last four or five years. So why not bet on that and see what happens? I think, though, if you take a longer lens, there's some research from Arizona State University, a chap called Hendrik Bissenbinder, who took the whole long run of stocks from, I think, the 1920s to today. And he finds something quite similar, which is that while holding stocks over that period has been incredibly lucrative, most stocks fail to beat the risk-free rate.

15:02Rob Armstrong: So if you just stick your money in bonds, you'll actually do better. You'll do better than most individual stocks. The average stock or the median stock, you'll do worse than all stocks put together. Exactly. The market-weighted, if you buy the market-weighted index, then you'll have done miles better. But it's only a really handful of stocks that really account for all of the market gains in the last 100 years. Yes, that's it. But I guess a big overarching thing here is that I feel like the line between active and passive funds has kind of blurred. Because as all good listeners to the Unhedged podcast know, if you buy an index that just tracks the entire US market, you're buying something that looks and smells incredibly similar to an active tech fund.

15:44Rob Armstrong: Because just those big tech stocks are so big. Like I was talking to a big asset manager recently that was saying that their clients are asking them to slice and dice the world into slightly different buckets. So they're saying, can you build us little bespoke indices that are like US but without the tech? It's not that we don't want the tech, but we just want something else as well to perhaps overweight or underweight or whatever. But you do have to think about the world slightly differently when some of the world's biggest stock markets are just kind of the law of one trade. I think that's right, Katie.

16:15Something you hear from active managers all the time is that the last decade or so has been an exceptional period where the market has been incredibly concentrated. It's been a one-way trade. It's been all U.S., all big cap, all tech, all five companies. And the tale they tell is these kind of moments come to an end. And that's when the world famous stock pickers market comes back into vogue. And I think that is true in the sense that the story that we've had a concentrated market is true. And when and if the wheels do come off that, some different kinds of people are going to outperform.

17:03Rob Armstrong: Yeah. Nathan, when does the next game get up and running? The registrations are open now. You can go on ft.com and you can find Stock Picking Game in the navigation bar at the top. Do you have to pay to enter? You do not have to pay. You have to be an FT subscriber. You have to be over 18. Yep. But you can sign up now. The game starts on Monday, 8am, the 5th of October. But don't worry, you can sign up any time up until about two weeks before the game ends, which is November the 27th. You can keep your powder dry. Listeners, readers, you know what to do. Good luck and don't screw it up. We're going to be back in just one second with Long Short.

17:47Rob Armstrong: Okie doke, listeners. It is time for Long Short, that part of the show where we go long a thing we love or short a thing we hate. Nathan Brooker, since you've been kind enough to come along from the money section today, what have you got? I've got a short for you. Yes. I'm short on announcing your first budget for the middle of the half-term holidays. Yes. Oh, cruelty to journalists is what that is. I was going to go to Greece, Rob. Oh. God. The new Labour leadership of Andy Burnham and John Healy have selected the 28th of October as the date of their first budget, which is where they're going to announce their tax and spending plans, and that's right in the middle of the school holidays.

18:27Rob Armstrong: I think you should send them a strongly worded letter. That's what I would do. Well, I mean, the thing is, it's no way to win friends, is it? No. No. So if you detect any kind of overly sour takes in the days after the budget. That's why. I know who to blame. You know who to blame. Yeah. Very good. Okay, we're short that. Rob, what are you saying? While I am short stock picking, I am long stock pickers. Because one thing we didn't mention today is that the people who are out there trying to beat the market, Do those of us who own passive products an incredible favor. They keep the market efficient.

19:10They are the ones who are out there making prices match fundamentals. So even as we sit happily in our S &P 500 index funds, we should tip our hats to the lonesome stock picker who is contributing to our wealth.

19:27Rob Armstrong: They're doing God's work. I am short kids. I read with interest that kids are hanging out in the comments section of NPR broadcasts on Spotify. I love this story. Because they're barred from other bits of the internet. So NPR, like the American radio, they tracked down one of these kids to say, why are you like chatting with your buddies in the comments section of our podcast? And he said, I think we just like looked for podcasts that didn't have many comments. Damn it, these kids. It's brutal. Ice cold. This is NPR, for heaven's sake. Do not use the unhedged comments section for your gossip and your tittle-tattle.

20:12We are a very serious podcast with lots of comments.

20:16Rob Armstrong: Who do these kids think they're talking to? I love it, though. It's like, I love the brutality, but I'm short the whole thing. And kids, if you're listening, which you're not, don't try it on. We are watching out for you guys. So, listeners, we will be back in your ears on Thursday. Nathan, thank you very much. Rob, chat to you again later this week. Listeners, see you then.

20:50The new episode of The Next Five is all about CFOs in an AI world. Patrick Villanova at Blackline joins me. CFOs are inherently risk averse. We have to be very prudent when we implement AI. As does Olya Brasi at Highgate.

21:05Rob Armstrong: My rule is no human owner means no go live. And Gina Gutsight at FTI Consulting. There's no excuse. You're the CFO. You're signing the name to the financial statements. Listen to The Next Five wherever you get your podcasts. Enjoy.

21:27Washington Wise is an original podcast from Charles Schwab that unpacks the stories making news in Washington right now and how they may affect your finances and portfolio. Listen at Schwab.com slash Washington Wise.