Most stocks don’t outperform Treasury bills. And only a handful of stocks have accounted for the bulk of wealth creation in the stock market in the last 30 years. That’s the conclusion of a recent academic study that has been stirring up interest in investing circles, and with good reason. The paper, ” Long-Term Shareholder Returns: Evidence from 64,000 Global Stocks ,” looked at the performance of roughly 64,000 publicly traded common stocks worldwide between 1990 and 2020. Of those, 17,776 were stocks that traded in the United States. The paper was published through the CFA Institute’s Financial Analysts Journal. The good news: U.S. companies are far and away the biggest drivers of stock wealth creation in the last 30 years. No other country is remotely close. The bad news: Most stocks, regardless of what country they are domiciled, have been terrible performers over the last 31 years. Of the 46,723 non-U.S. stocks studied, only 42.6% generated buy-and-hold returns measured in U.S. dollars that exceed one-month U.S. Treasury bill returns. The U.S. was no exception. Of the 17,776 U.S. firms studied, only 44.8% outperformed Treasury bills. Stock market wealth is highly concentrated How can this be? It is well documented that, long-term, a broad portfolio of stocks outperforms Treasury bills. The trick to understanding this is that the market is typically defined by indexes such as the S & P 500 , which is weighted by market capitalization (price x shares outstanding = market capitalization). Thus, the winners that keep advancing have a greater influence on the index than those that are not advancing. This creates the illusion that because the index is advancing (the S & P 500 typically advances roughly 10% a year, including dividends), then most of the stocks in the index are advancing. But that is not necessarily true. First, there is survivorship bias in the indexes. They throw out the losers and add the winners. Second, only a small number of the winners account for the bulk of the gains: “[T]he positive mean excess long-run returns observed for stock portfolios are driven by very large returns to a relative few stocks,” the authors point out. How few? Very few. What matters: Apple, Microsoft, Amazon, Alphabet, and Tencent The authors conclude that just five firms ( Apple , Microsoft , Amazon , Alphabet , and Tencent ) account for 10.3% of the $75.66 trillion in global public stock market net wealth creation in their sample over that 31-year period. Think about that. Just five stocks accounted for 10% of global net stock market wealth creation over 31 years. That is 0.008% of the total universe. It doesn’t change dramatically if you just look at U.S. stocks. 44 companies (0.25% of the sample) account for 44.3% of the gains. % of U.S. net stock wealth creation (1990-2020, 17,776 companies) % of companies % of total % of net wealth creation 44 0.25% 44.3% 174 1% 70.2% 867 5% 99% Pages 23, 46 Here’s the top 10 firms, ranked by how much market capitalization increased over the 31-year period from January 1990 to December 2020. Top 10 Global Firms: the biggest wealth creators (wealth created, January 1990-December 2020) Apple $2.67 trillion Microsoft $1.91 trillion Amazon $1.56 trillion Alphabet $979 billon Tencent $691 billion Tesla $639 billion Walmart $568 billion Facebook $533 billion Samsung $540 billion Johnson & Johnson $535 billion U.S. tech rules the world A few observations: 1) It’s amazing how dominant U.S. companies, and particularly U.S. tech companies, are in wealth creation. Only two of the top 10 are non-U.S. based (Tencent and Samsung), and only six of the top 20 are non-U.S. based (the other non-U.S. based firms in the top 20 are Taiwan Semiconductor, Nestle, Roche, and China alcohol beverage producer Kwiechow Moutai). 2) Many of the top 20 were not even public for the entire period. Amazon went public in 1997, and both Alphabet and Tencent went public in 2004. Tesla only went public in 2010. 3) There’s a lot of “creative destruction” going on in the stock market. A lot of companies fail or merge. The U.S. sample size consisted of roughly 17,000 listed stocks over the 31-year period. There are not 17,000 stocks currently trading in the U.S.: The sample size includes many companies that have folded or merged in that time period. It also includes many tiny stocks. The authors did exclude any stock with a market capitalization below $1 million or if its share price dropped below one cent What does it mean? Passive investing wins again So why doesn’t everyone just buy stocks that are winners? Because no one knows who will be long-term winners or losers. The authors readily admit that anyone who could identify which stocks would go up would obviously have a huge advantage. The authors diplomatically avoid saying who might have this advantage: “Of course, our study does not clarify which, if any, investors possess the requisite comparative advantage.” Right, and that is the problem. Nobody (or almost nobody) possesses the “requisite comparative advantage.” That’s clear in one of the only recommendations contained in the study: “The results reinforce the desirability of investing in a broad passive index.” Nicholas Colas, co-founder of DataTrek Research, also reviewed the paper and came to the same conclusion: “The truth is a handful of truly stellar companies generate persistently strong returns over a long period of time. Those create all the value and are the reason equities generate higher returns than risk-free bonds. The right way to think about stocks is that ‘equity indices usually go up, and only because of a small group of names.'” Why do people continue to try to pick stocks? These findings reinforce decades of studies about the perils of picking stocks and the value of owning a broadly diversified portfolio. Larry Swedroe is director of research for Buckingham Strategic Wealth. He has studied market returns for decades. In reviewing an earlier version of this paper, Swedroe summarized the main problem for investors: “Owning individual stocks [is] much riskier than most investors believe,” he said. The reason, as this paper demonstrates, is that stock returns are not normally distributed over time. Aggregate stock returns do not look like a bell curve: Most stocks will decline in value, and only a few offer superior long-term returns. If that is true, why do investors persist in trying to pick small groups of stocks? Swedroe believes much of the problem lies in the way our brains are structured. Individuals display biases that affect their ability to make money, let alone outperform the market . For example, investors fail to understand the value of diversification and how many individual stocks are needed for a truly diversified portfolio. In my book, “Shut Up and Keep Talking: Lessons on Life and Investing from the Floor of the New York Stock Exchange,” I listed many of the dozens of biases that investors exhibit that cloud their ability to make sound investment decisions. For example, investors: 1) are overconfident and believe they possess superior stock-picking skills; 2) overestimate the value of the information they possess, not understanding that this information is already publicly known; 3) blindly follow what others are doing (herd behavior); 4) select information that supports their own point of view, while ignoring information that contradicts it (confirmation bias); 5) believe that because a stock has done well in the past it will continue to do well in the future (the gambler’s fallacy); 6) overreact to certain pieces of news and fail to place the information in a proper context (availability bias); 7) rely too much on a single (often the first) piece of information as a basis for picking a stock, which becomes the reference point for future decisions without considering other pieces of information (anchoring bias). These and other biases all combine to make many investors willing to roll the dice with their money in hopes of hitting an imaginary jackpot. “They are willing to accept the high likelihood of underperformance in return for the small likelihood of owning the next Google,” Swedroe said. “In other words, they like to buy lottery tickets.” The bottom line, Colas notes: To generate returns that match the S & P 500, you need to pick the stocks that actually drive the performance. But guessing those that drive the performance is exceedingly difficult, which is why indexing works: “The market gets things wrong, but human judgement often makes even more errors,” Colas said.
