Passive Investors, Beware: This Is a Do-it-Yourself Investors’ Market. Here’s Why

Here’s why do-it-yourself stock pickers will have the advantage over indexers with the U.S. markets in overvalued territory. Stock pickers can actively select value and avoid expensive stocks such as Shopify Inc. (TSX:SHOP)(NYSE:SHOP).

| More on:
The Motley Fool

For those who want to invest but don’t have the time to analyze individual securities on a regular basis, index funds and ETFs are the best thing since sliced bread. They keep things simple and are great for those who are not confident enough to construct their own portfolios of individual stocks. Over the years, the U.S. market has been saturated with a tonne of passive-investment instruments, overcomplicating something that was invented to keep things simple and easy.

A wide array of passive instruments is now popping up in Canada, such that you’ve now got a tonne of passive vehicles to ride with your cash from emerging indices to smart beta strategies. Things are getting complicated, without a doubt, and as more investors flock to these passive-investment options, the more bubbly and expensive the broader market will become.

Index investing is fantastic, but unfortunately, there’s also a downside. And I believe the downside is more apparent in today’s frothy global market. U.S. markets are absurdly expensive, and as an investor, value picks are few and far between. They do exist; however, only individual stock pickers are able to filter the expensive stocks from those that offer compelling value.

Since a majority of U.S. stocks today are extremely overvalued, with passive investments like index funds or ETFs, you’re buying a whole basket of stocks, most of which are extremely expensive. If you’re a newcomer, odds are that you’re investing in a low-fee cap-weighted index fund or ETF, and if that’s the case, your investment goes towards some really frothy and overvalued stocks.

Once the next correction or bear market comes around the corner, the entire market is going to suffer, and index investors will lose big, creating a gigantic opportunity for do-it-yourself investors to select cheap, overly beaten-up stocks that have fallen along with the broader market.

With passive instruments, you have no control over what you’re buying. You’re buying the broader basket, which is expensive. If you pick your own stocks, you can select the few value names that remain, like Apple Inc. (NASDAQ:AAPL), and avoid frothy growth stocks with absurd multiples, like Shopify Inc. (TSX:SHOP)(NYSE:SHOP) or Square Inc. (TSX:SQ).

As a value-conscious individual stock picker, I believe you’ll be better protected in the event of the next crash, which will be exacerbated by the overuse and abuse of passive-investment instruments. Stock pickers still stand to be impacted from a likely valuation reset; however, I believe such sell-offs will result in some of the best buying opportunities for individual investors who can spot the vast number of bargains that’ll be created.

Bottom line

Passive investing is a great strategy until the markets as a whole become too frothy, then do-it-yourself investors will prevail, because they have the ability to hand-pick the few value stocks, which remain in what appears to be an extremely expensive U.S. market.

While index investing may seem like a simple solution, there are major benefits to learning the active investing game to become a do-it-yourself investor. It’s these investors who sustain a lesser amount of damage once the bear rears its ugly head to bring valuations back down to reasonable levels.

Stay hungry. Stay Foolish.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium service or advisor. We’re Motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer, so we sometimes publish articles that may not be in line with recommendations, rankings or other content.

Fool contributor Joey Frenette owns shares of Apple. David Gardner owns shares of Apple. Tom Gardner owns shares of Shopify. The Motley Fool owns shares of Apple, Shopify, and SHOPIFY INC and has the following options: long January 2020 $150 calls on Apple and short January 2020 $155 calls on Apple. Shopify is a recommendation of Stock Advisor Canada.

More on Stocks for Beginners

concept of real estate evaluation
Stocks for Beginners

2 No-Brainer Real Estate Stocks to Buy Right Now for Less Than $1,000

These two real estate sector-focused stocks have the potential to deliver strong returns on your investments in the coming years.

Read more »

engineer at wind farm
Energy Stocks

Invest $20,000 in This Dividend Stock for $100 in Monthly Passive Income

This dividend stock has it all – a strong outlook, monthly income, and even more to consider buying today.

Read more »

stocks climbing green bull market
Stocks for Beginners

3 TSX Stocks Soaring Higher With No Signs of Slowing

Don't ignore stocks just because they look like they're at a high price. Instead, see exactly why they've driven so…

Read more »

Middle aged man drinks coffee
Dividend Stocks

Here’s the Average TFSA Balance at Age 35 in Canada

At age 35, it might not seem like you need to be thinking about your future cash flow. But ideally,…

Read more »

a man relaxes with his feet on a pile of books
Dividend Stocks

CPP Pensioners: Watch for These Important Updates

The CPP is an excellent tool for retirees, but be sure to stay on top of important updates like these.

Read more »

Piggy bank with word TFSA for tax-free savings accounts.
Stocks for Beginners

2 Top TSX Growth Stocks to Stash in a TFSA for Life

These two growth stocks may not be the top in the last month, but in the last few years, they…

Read more »

people relax on mountain ledge
Dividend Stocks

Invest $10,000 in This Dividend Stock for a Potential $4,781.70 in Total Returns

A dividend stock doesn't have to be risky, or without growth. And in the case of this one, the growth…

Read more »

TFSA (Tax free savings account) acronym on wooden cubes on the background of stacks of coins
Dividend Stocks

How to Turn a $15,000 TFSA Into $171,000

$15,000 may not seem like a lot, but over time that amount can balloon into serious cash.

Read more »