Recently, I received the following question on the Facebook page for Help Me Start Investing :

How common is it for someone to beat the market consistently? Is it very common? If yes – what would be the percentage by which a good trader / investor does better than the market? How long can someone beat the market consistently?

Yes, I do have a Facebook page where I share these articles. You can access it here.

While trying to answer this question, I decided to share my thoughts in this post rather than writing a really long comment on Facebook. I have written previously on this subject here

If you have been following my blog then you already know that I am a strong proponent of doing these three things

  1. Make a budget and build up an emergency fund.
  2. Aim to save at least 20% of your salary.
  3. Invest in the stock market.

Stock market is like a bank that rewards its long-term shareholders with above average returns (8-12% per year). Most people that I know do the first two things really well. It’s the investing part that most people don’t do so well. The stock market has returned over 12% per year in the last decade. That is an outstanding return. Most people would do well to just invest in a S&P 500 index fund every month out of their paycheck and do nothing else. You do not need to know anything about the stock market or about companies. You can make it automatic and you don’t even have to lift a finger. Every month, you can set up a fixed amount to be invested in a S&P 500 index fund. 

This article illustrates what 10% annual return can do over your working life. Imagine what 12% return will do.

The above comment was asking about whether it is possible to beat the market. Generally, I refer to S&P 500 index as the market. So, is it possible to earn higher than the returns of S&P 500 index over longer periods of time? Academics have argued over a long time and written books about something called Efficient Market Hypothesis (EMH) . Basically, according to this hypothesis, the market is priced accurately and it is not possible to beat the market over long periods of time. In fact, academics argue that beating the market over the long-term is a matter of luck. I am also an academic, however, I don’t agree with this hypothesis. In fact, I think that this hypothesis is garbage. I believe that it is possible to not only beat the market but crush the market over longer periods of time. You just need to follow a set of rules and don’t be scared out of good investments. You have to stay patient and be willing to lose to the market over a shorter-term (less than a year) in order to beat the market.

I am going to share an example of a basket of six companies that you all would have used in the last decade and compare their performance with the S&P 500.

First, S&P 500 has returned 293% in the last decade which in itself is awesome.

  1. Home Depot (HD) has returned 937% over the last decade.
  2. Lowes (LOW) has returned 989% over the last decade.
  3. Starbucks (SBUX) has returned 512% over the last decade.
  4. Disney (DIS) has returned 460% over the last decade.
  5. Domino’s Pizza (DPZ) has returned 1570% over the last decade.
  6. Chipotle (CMG) has returned 528% over the last decade

None of the above returns include dividends. Most of these stocks pay dividends. So, the total returns will be even higher. I purposely picked these six boring companies and did not include the giant winners like Netflix, Apple, Amazon, Tesla etc. because that is so obvious in hindsight. I picked these steady-eddy type of businesses that over time have done much much better than the market. However, if you were an investor in any of these companies over the last decade, there have been stomach-churning drops in most of these companies. Chipotle went through an e-coli scare and the stock price was cut by more than half during 2017-18. Home Depot and Lowes both suffered supply chain issues and that resulted in their price being depressed for a long time (2015-17). So it is possible that if you were holding these stocks, you would have lost to the market in some of the past 10 years but over a longer period of time, these stocks have absolutely crushed the market. There are many other boring businesses that have done the same (Dollar Tree, Nike, Target etc.)

The key to enjoy market-beating returns is to not compare your performance over a yearly basis. A year after all is nothing but an arbitrary period of 12 months. If you pick good companies, let them do their thing for at least three years or even five years. Compare the total returns over those three years with the market returns and you might be pleasantly surprised.

So do I think that it is possible to beat the market?

Absolutely. No question about it. 

David Gardner has a weekly podcast where he has picked a basket of five stocks 30 times in the last five years. For free. 26 times out of 30, those picks have crushed the market. You can listen to all the episodes here. There are many more services that are paid that have beaten the market over longer periods of time.

The key to beat the market is, pick good businesses and check into those companies once every quarter and then leave them alone. Don’t pay much attention to the stock price over one to three years. Pay attention to the business metrics. Is the revenue growing? Are they keeping the costs down? Is the business operating in an industry that can survive and thrive over the next ten years (For example, I wouldn’t invest in any traditional automakers except Tesla over the next 10 years because I believe that they are headed towards extinction). If the company is doing all that and they have a good management team, leave it alone and keep adding new money regularly. Business and stock price are two different things in the short-term but over the long-term, if a business is performing well, stock price will usually follow and vice versa.

There will be a few years when you will lose to the market and that’s okay. If it’s been three years and you are still losing to the market, it may be time to either change your process or just stick to investing in the market because let’s be clear, 293% over the last decade is not bad at all. That is almost a quadruple of your money which is nothing to sneeze at.

In fact, like I explain in this article, that is exactly what I am doing with my portfolio. All my employer retirement funds are invested only in index funds. For my taxable brokerage account and Roth accounts, I invest in individual stocks.

So, staying consistent with the previous article, I still believe that these five stocks will beat the market over the next five years: Twilio (TWLO), Zoom (ZM), Docusign (DOCU), Etsy (ETSY) and Netflix (NFLX).

Do you agree? Which stocks do you think will beat the market over the next five years?