I Beat the Stock Market By Day Trading My Instagram Followers’ Stock Picks, But Still Lost Money – Money Magazine

This post was originally published on this site

We want to help you make more informed decisions. Some links on this page — clearly marked — may take you to a partner website and may result in us earning a referral commission. For more information, see How We Make Money.

A little over a month ago, inspired by stories of day trading dogs and stock market dart boards that outperform financial experts, I decided to jump into the day trading game. 

I don’t fancy myself much of a stock picker — I’m no good at darts and don’t have a dog. Instead, I’ve built millions of dollars in wealth by buying and holding low-cost index funds, which track the performance of the entire stock market rather than try to pick individual winners and losers. It’s the investing strategy I believe is optimal, no matter the experience level of the investor. 

But for one month, I decided to go in a different direction. I would become a day trader, buying whatever stocks my Instagram audience told me to. Maybe the key to stock market riches is contained within the wisdom of crowds. I was going to find out.

I  set it up as a challenge. I would take $10,000 and buy a different stock each day for a month. That stock would be chosen by a poll given to my 315,000 Instagram followers. I know active investing isn’t simply measured by making or losing money, but rather beating the market, so I decided to take another $10,000 and buy and hold an index fund for the month. I chose VT, Vanguard’s total world stock ETF.

To make it even more fun, I encouraged my audience by offering prizes if they picked a stock that beat the market. Finally, to give it a charitable twist I committed to donating all of the money on both sides to GiveWell at the end of the month, personally guaranteeing a minimum of $20,000 if the market dropped or it turns out my Instagram followers suck at day trading.

While I knew the outcome would be a coin flip over such a short period of time, I did discover there can be hidden costs even when you succeed with a day-trading approach.

The Challenge: Day Trading vs. Index Funds

The stage was set. I made a post announcing the challenge and asked for stock pick suggestions. My audience responded. Armed with dozens of stock tickers, I started the challenge. I bought $10,000 worth of my index fund and put the other $10,000 into the most popular stock suggestion: Tesla. It turned out to be a good trade. At the end of the first day Tesla was up and my day trading fund was at $10,123, while the market was slightly down, leaving the index fund at $9,954. We were already beating the market!

But then we hit a rough patch. The next four stocks my audience picked were Home Depot, Amazon, Google, and Ali Baba. Their daily returns were 0.22%, 0.59%, 0.63%, and -0.10%. Not bad, but in every case they lost to the market. That big lead my Tesla trade had built up almost vanished and now the score stood at $10,259 to $10,245. Day trading held the narrowest of leads.

The next two days were a roller coaster. Apple was up 1.7%, beating the market by a full percent, but then Spotify was down 1.8% on a day the market was up 0.3%. That was a net loss of over 2% and the index fund had taken the lead!

And so it went for the next month. The index fund was the tortoise, slowly marching up with the average market returns. The day trading fund was up and down like the hare. Racing ahead, then falling behind. In fact, in just 21 trading days in the month there were six lead changes between day trading and the slow and steady index fund.

But as the finish line neared, it became clear. Day trading had taken a lead that it wouldn’t give up. It was a great month for the market. My index fund was up over 5.7%, leaving me with $10,575. But day trading had done even better, gaining 12.9% and leaving me with $11,291. We did it: We beat the market!

What I Learned From Being a Day Trader

After the dust had settled, I started to analyze the results. I polled my audience 20 times, asking them to predict which of two stocks would perform better the following day. We did beat the market, but it turned out they only picked the better performing stock eight out of the 20 times. If instead of buying the stock that won my Instagram poll, I had bought the less popular option each day, I would have ended up even more: 14.6% for the month.

If the wisdom of crowds was truly infallible and my audience picked all 20 right, we would have ended up a whopping 33.2% for the month. So it seems we just ended up with a lucky set of stock tickers at the beginning, not a foolproof system to outperform of the market.

But something else nefarious was at work that caused me to end up with less money than if I had just held an index fund the entire time. Do you know what it was?

It wasn’t trading fees. While day trading can be more costly, I was careful to trade with a U.S. brokerage that offered free trades on stocks.

It also wasn’t taxes. Normally, day traders are saddled with the worst possible tax treatment of short-term capital gains, while buy and hold investors enjoy the lower long-term capital gains tax rate. But I cleverly made all the trades inside my Roth IRA, so neither side was subjected to tax.

It wasn’t even my time. When setting up this challenge, it would be disingenuous of me to discount the day trading success based on the value of my time. If it REALLY worked, I could raise millions for my new Instagram influencer fund, making it well worth the few hours of my time to make Instagram polls.

It turned out to be something called “cash drag.” In order to buy $10,000 of a new stock each day, I needed to keep an extra $20,000 in on the sidelines in cash outside of the market. That’s because stock trades typically take 2-3 days to “settle.” If I kept buying and selling with the same cash, I risked getting a “good faith violation” on my account, which happens when you sell a security before the cash you use to buy it in the first place settles in the account. In fact, I actually did get one such violation during this challenge.

So that $20,000 I kept on the sidelines DIDN’T enjoy the 5.75% gain from the market last month. That opportunity cost me 5.75% of $20,000, or $1,150. Coincidentally almost the same amount as the impressive total gain from my day trading. So even though we picked stocks that beat the market, if I had just left all $40,000 alone in an index fund I would have actually ended up with more money!

Why I’m Sticking With Index Funds

For what it’s worth, I never actually expected to be able to reliably beat the market. 

Before this challenge, I wrote to my audience: “Is the wisdom of crowds going to beat the index fund? I have no idea. I think it’s a coin flip, because over just a month there will be a lot of randomness and volatility from trading a single stock.” And that’s what we got. A much more jagged line from day trading with six lead changes that just happened to arrive on the lucky side of the coin at the end of the month. If I continued doing this indefinitely, I feel very confident that the slow and steady index fund would eventually take over the lead and never look back.

So after the challenge was over, I wrote the donation check of $21,866, then put all of my investments back where they belong: Into low-cost, broad-market index funds where I plan to leave them for decades. Meanwhile I’ll be sleeping like a baby not having to worry about which stock is going to get lucky tomorrow.

This post was originally published on *this site*