When I ask this question, sometimes I get a blank stare. This is mostly from the "do it yourselfers" that insist that they're not going to pay a professional to manage their money for them. After all, they can save so much money by not paying a professional, right?

Well, that depends. You should be having fun while researching companies. If you aren't having fun, you should be paying someone else who thinks that sort of thing is fun or you should be investing passively in the market by buying an index mutual fund or by buying a random selection of stocks.

You also need to take into consideration how much money you are investing and how much time it takes you to do research. Like anything else, investing is a skill. You need to know how to read financial statements, how to analyze the company's management, and how to determine the value of a company.

If the stock market, as a whole, returns 7% and you beat the market by 3%, you're earning 10%. Most people would call that a success. But if your total time commitment to get that extra 3% was 100 hours worth of work, and your portfolio size was $25,000, that amounts to an extra $750 that you made that you would not have made had you just passively invested in the market. Remember that this is 100 hours spread out over the course of a year. That's about 2.5 hours a week looking at stocks, or working in some way on your investments, and taking 3 months off during the year. That's like a half an hour a day during the work week working in some capacity on your investments. I hope you see where I'm going with this.

You just worked for $7.50 per hour. Now, you have to ask yourself, is it worth it? Could you have done better by just putting in a few hours of overtime at work?

Now, if your portfolio is much larger, say, $500,000, well now that is a different story. If you're beating the market by 3%, then you're getting an extra $15,000 that the market, passively, would not have given you. That's $150 per hour. Not bad.

But...

If your total portfolio size is $500,000, are you really going to invest substantially all of it in equities or single stocks? Perhaps? If you're not risk averse you might. A more rational approach might be to invest 80% to 90% in an way where you are guaranteed a specific rate of return. Then, use 10% to 20% to invest in stocks that you think you could beat the market with. If your portfolio was $500,000, then 10% of that would be $50,000. 20% of that same 1/2 million would be $100,000.

My point is that you must be seriously committed to learning how to invest in stocks for it to be worth your time. You also have to have a substantial amount of money to invest, or be confident that you can outpace the market by a wide margin, or be good enough that you don't need to spend a lot of time researching and keeping tabs on your investments.

The more time you spend researching your investments, the less money per hour you make, generally speaking. This is one reason why I'm not a huge fan of day trading. Long-term investors tend to make more money per hour, even if they don't manage to bring home larger returns than day traders. Who cares if you made 5% last month on $10,000 if you had to work 100 hours in that month to do it? You still made less than minimum wage.

Now, the opposition to this argument is that my hourly wage calculation only figures in the amount of time required to beat the market. Some people might argue that they earned that entire return. And, so they did. For example, on $25,000, if you earned 10%, you worked for that entire 10%, not just the 3% over what the stock market gave you.

While I understand that side of the story, my hourly wage calculation is simply trying to show you what you're getting paid to beat the market, not what you're getting paid to invest. Since you can get 6% or maybe 7% from passively investing in the market over time, you are really only working for any percentage points over that. I suppose if you wanted to be a professional investor, then we could say you made $25 per hour, but then, that's a pretty low wage for a professional. And, I still think that if the stock market is passively returning 6% or 7%, then-even as a professional-you're getting paid to beat the market, not to mirror the market.

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This entry was posted on October 2nd, 2009 by David C Lewis, RFC. Edits may have been made to keep this entry current. · No Comments · Investing