Rekenthaler on When to Buy Stocks Directly

In a recent Morningstar article, columnist and veteran fund researcher John Rekenthaler argued that novice investors should avoid the direct purchase of equities until they become “sufficiently educated.”

Here are some of Rekenthaler’s key points:

  • “The young investor who starts with stocks courts the danger of performing so badly as to become disillusioned, thereby abandoning equities.”
  • “The math is unfavorable for the direct-equity investor,” Rekenthaler writes, explaining that market indexes are moved by a relatively small number of big winners, “which drag the silent majority along with them.”
  • The constant shifts in stock prices can make owning individual stocks an exercise in aggravation compared to owning mutual funds.
  • Both speculating (buying penny stocks because they’re cheap) and trend-chasing (buying stocks because they’re rising in price) are approaches that “can masquerade as insightful if the investment environment is friendly,” notes Rekenthaler. “However,” he adds, “profiting from emotion is unsustainable. Eventually, as with the collapse of the new era technology stocks, those who invest on instinct are punished.”
  • The purchase of individual equities “can misfire” and therefore should be done “only after the investor has constructed a foundation of diversified funds.”
  • Rekenthaler suggests joining an investment club, “whereby members divide their resources. This process not only reduces risk by increasing diversification, as a larger asset pool permits the club to own more stocks, but it also encourages analysis.”

Rekenthaler concludes that “Novices should not own stocks directly, nor should others, unless they have learned the investment curriculum and are also willing to do the work.”