How good an investor are you? - A new way of looking at this.

We can all measure our portfolio against some benchmark, and draw a conclusion as to whether we are better or worse than that benchmark.

But how good are the decisions you make? Do the switches you make add value? Would it have been better to simply buy and hold - never selling anything?

To measure how good you really are at managing your own portfolio (vs no active management), you can set up two portfolios.

The first will contain all the stocks you currently own.

The second will contain the stocks you sold.

So, for example, when you sell 100 shares of MSFT in Portfolio 1, you will enter the 100 shares in Portfolio 2 as a “buy” as if you had bought them on the same day at the actual price you sold them.

If you find that portfolio 1 is performing better than portfolio 2, then you are adding value with your investment switches. Well done. You should be a professional investment manager.

On the other hand, if portfolio 2 seems to do better, it means that the stocks you are buying aren’t doing as well as the ones you are selling. Put another way, you’d make a lousy investment manager.

For a bit of fun, you could also set up the following:

Portfolio 3 - Containing stocks that you would have bought if you had the cash available.

Portfolio 4 - Containing stocks that you studied and decided not to buy.

Please note: For the comparison to be meaningful, you need to have at least 10 stocks in each portfolio, and preferably more than 20. If there are too few positions in the portfolios the results could reflect good or bad luck in your stock picking, rather than actual skill, or lack of it.

I agree with your assertions, but how does this really differ from a requirement that one’s portfolio be a significantly diversified subset of the benchmark? Also, asset allocation is probably a much more important factor than stock picking. At least that is what the academics seem to conclude. The best portfolio performance assessment I have seen is at Schwab. They plot a return vs. risk chart that includes your portfolio and a frontier of portfolios with different risk profiles. I tried to copy the chart to paste here, but I was not successful.

Are you familiar with the Henricksson-Merton test of market timing? I have used it for decades to test my investment predictions. It requires one to evaluate both the picks and the pans. Evaluating one’s buys only is theoretically incorrect, insufficient and misleading. Of course, this is consistent with your proposal.