In response to a comment on the Canadian Dream blog, Preet of Where Does All My Money Go asked this question:
Why would you ever buy individual stocks to add to your portfolio of indexed products? If I’m not mistaken you do add the odd position or two, do you not? Is that not an “active” strategy?
If I do recall correctly, and you DO purchase individual positions, would you agree? If not, I would be curious as to the rationale…
If you’ve followed this blog for a while you know that I’m a big fan of indexing and I have mostly given up on picking stocks for the majority of our portfolios. However, I still plan to capture Canadian exposure through individual stock positions. So, it’s fair to ask why and I’ll try to explain.
There are two reasons for picking individual stocks: (1) Canadian stocks held in our taxable accounts receive favourable tax treatment in the form of the dividend tax credit. I like to buy stocks with a long history of growing dividends at a reasonable price. With individual stock picks, I can easily double the yield on a Canadian stock portfolio than the underlying index. (2) I love to pick stocks. I find it intellectually challenging to research stocks and find it hard, but satisfying, to patiently wait for buying opportunities and, to be honest, a bit tiresome to read earnings reports to keep track of my holdings.
You’ll notice that, financially speaking, (1) is a reasonable argument but (2) is not. I am under no illusion that I am going to beat the pants off the index. In fact, I recognize that the odds are against outperforming the index. However, I am confident that we will easily meet our financial goals even if I am terrible at picking stocks, so I am okay with my choice. I do increase my chances of being successful by reducing turnover and avoiding “story” stocks. Still, you are welcome to characterize my fling with active investing as yet another triumph of hope over experience. If the experiment turns out badly, the damage will be limited to a portion of our portfolios.