An investor who bought a FTSE 100 tracker at the beginning of the year would have made 10.39 per cent by now; however, the best-performing constituent – Lloyds Group – has delivered almost eight times as much as this. No actively managed UK equity fund has come close to matching this return.
Someone who had chosen a winner further down the market cap spectrum would now be even better off. Westminster Group, an AIM-listed defence company, has returned a massive 194.44 per cent year-to-date.
Performance of stocks vs index in 2012
Source: FE Analytics
Stockpicking is, however, a very risky game. Individual companies are more volatile than funds, and there is a far higher risk of losing everything if that particular company defaults.
Buying a company is just the beginning; knowing when to add to the position, when to take profits and when to sell out completely are each difficult skills to master, and require a huge amount of discipline.
Keith Bowman (pictured right), equity analyst at Hargreaves Lansdown, advises new investors not to jump in to trading straight away.
"Like most things in life, success comes with experience – I for one am a big proponent of using a dummy portfolio, which enables you to make a few mistakes here and there and understand what you’re getting yourself into." "Patience is a big part of investing in stocks – a lot of investors go in with high expectations and get burnt very quickly, so getting to know the market before you put in your own cash is advisable."
"It’s a bit like gardening – build yourself a plot, fail a couple of times and then go for the real thing."
Bowman says a lot of investors had their fingers burned by the dotcom crash and are understandably wary of re-entering the market. He says starting off with small volumes and using stop losses is a good way to ensure they do not take on too much risk.
Given the greater information in the public domain, Bowman thinks investors would be wise to look into large caps before venturing into small caps and even start-ups.
"When looking at individual stocks, I’d first start with the FTSE 100 stocks you’re naturally already familiar with, then move down to the FTSE 250, and when you’ve got a bit more experience, look at the smaller scale."
"There are greater rewards on offer in small caps because they’re less researched. Whether you’re a professional or amateur, the risks are much higher."
Last week’s autumn statement confirmed that investors will now be able to invest in AIM-listed stocks.
Bowman says there is plenty of data available in the public domain to allow investors to make informed decisions, but says even the most diligent stockpickers can still fall short.
He commented: "You can do all the research in the world, but there’s still a crystal ball-element when you invest. Take the fiscal cliff – you can have the best company in the market, but if the result is unexpected, you’re still going to suffer."
"Initial research is very important, but sometimes when you’re interested you can look too far into things. The important thing is to be patient, and not get too wrapped up in the day-to-day movements," he added.
The Share Centre’s Sheridan Admans says acknowledging investment objectives early on is the key to long-term success in stockpicking.
"Before investing, it is important to decide upon a strategy based on your investment aims," he advised.
"Generally, people buy investments for one of three reasons: to receive an income from them in the form of dividends, to hopefully see a growth in their value and sell them at a profit, or a combination of the two, known as balanced."
He also warned that anyone looking for income should not look at the prospective yield alone.
"Choose a company that pays a high yield and compare it with other companies in the sector, but beware; while an extremely high dividend may appear attractive, it may be a one-off and not truly representative of the income you can expect in the long-term."
"There are a few important questions to consider when buying shares for income, such as to what extent is the dividend covered, is the company regularly increasing the dividend year-on-year and what has been the historic trend?”
"First, you need to consider whether the company you are looking to invest in is expanding via acquisition; if so, you need to check out the logic behind the acquisition – especially if it's based on cost savings."
"Second, ask yourself if the company is developing new technology, products or services, and try to get an idea of development timescales."
"Next, find out whether the company is entering new overseas markets, and be aware of local conditions such as the political climate and taxation issues."
"Lastly, you need to know if the company is an attractive takeover target, which often results in a short-term hike in shares followed by a drop. For this reason, you need to keep an eye on the news."
Commenting on last week’s announcement that AIM-listed companies can now be held in ISAs, Admans says investors who can afford to lose their entire initial investment should still err on the side of caution.
"If you’re an investor who wants to hold a bit of excitement in your portfolio and can afford to lose the money you put in, there’s certainly a case for holding AIM stocks," he explained.
"There are big risks with these companies – they are much smaller businesses and tend to have a lower degree of accountancy standards. Many have novice management and are listed overseas, which means they have less transparency."
"That’s not to say there aren’t big risks with FTSE 100 companies though. We’ve seen some come close to collapsing – just look at RBS, which is 80 per cent owned by the taxpayer. Many of the oil companies in there are listed overseas, so you’ve also got the problem of transparency," he added.