Why Stock and Fund Picking Is Detrimental to End-Client Outcomes

Stock and fund picking has long been a popular pursuit within the financial industry. Some financial advisers dedicate substantial resources to identifying the next outperforming fund, driven by the allure of delivering superior returns. However, evidence-based finance increasingly suggests that the focus on selecting winning funds or stocks may be counterproductive to client outcomes. The most significant issue lies in the fact that dedicating time to picking the best funds often prevents advisers from engaging in comprehensive financial planning.

The Illusion of Outperformance

The quest for outperformance is often rooted in the belief that skilled fund managers can consistently identify the best investments. However, numerous studies indicate that very few managers consistently outperform the market after fees and costs (Carhart 1997; Fama and French 2010). This tendency towards underperformance has been demonstrated across asset classes and geographies, highlighting the unpredictable nature of discretionary active management.

The Time Cost of Fund Picking

One of the most significant but underappreciated costs of fund picking is the time spent attempting to identify the best-performing funds. Financial advisers and investment managers often dedicate substantial effort to researching, analysing, and discussing potential winning stocks and funds. This focus diverts attention away from more impactful financial planning activities, such as risk management, tax efficiency, and retirement planning. Worse still, some advisers may choose pre-packaged portfolios after a single meeting, assuming that these selections will be suitable for a client whom they don’t even really know yet. Such an approach can severely compromise the quality of the client’s financial plan.

Opportunity Cost for Clients

While advisers are immersed in fund analysis, critical areas of a client’s financial wellbeing may be neglected. Building a holistic financial plan requires more than just picking investments; it involves being a reliable person with financial planning expertise, setting goals and prioritising those goals, cash flow analysis, optimising tax strategies, behavioural support in times of market crises, assessing insurance needs and planning for estate distribution. The fixation on fund selection often leaves these essential tasks side-lined.

Evidence from Behavioural Finance

The behavioural biases that underlie fund picking also play a role in detracting from client outcomes. Overconfidence, hindsight bias, and the illusion of control often lead advisers to overestimate their ability to pick winning funds, ultimately resulting in disappointment and potential client dissatisfaction (Barber and Odean 2000).

Reallocating Effort Towards Holistic Planning

Evidence-based advisers increasingly advocate for a strategic shift away from fund picking towards comprehensive financial planning. By focusing on tax efficiency, asset allocation, and goal-oriented advice, advisers can better align their efforts with clients’ long-term financial success. This approach not only enhances client satisfaction but also reduces the risk of underperformance and disappointment.

Conclusion

Ultimately, the obsession with stock and fund picking is detrimental to end-client outcomes not only due to the high likelihood of underperformance but also because it diverts critical time and energy away from more meaningful planning activities. Financial professionals would better serve their clients by dedicating resources to holistic financial planning, helping them achieve financial security through structured, evidence-based strategies.

References

Barber, Brad M., and Terrance Odean. 2000. ‘Trading Is Hazardous to Your Wealth: The Common Stock Investment Performance of Individual Investors’. Journal of Finance 55(2): 773-806.

Carhart, Mark M. 1997. ‘On Persistence in Mutual Fund Performance’. Journal of Finance 52(1): 57-82.

Fama, Eugene F., and Kenneth R. French. 2010. ‘Luck versus Skill in the Cross-Section of Mutual Fund Returns’. Journal of Finance 65(5): 1915-1947.