I think that unrealistic return expectations contribute to a lot of beginning traders blowing up.

The two advantages I would give the funds is information and access. I work for Thomson Financial and get to see the enormous amounts of information that institutions can have access to if they want (not to mention what they know of their own in-house operations). Also, there are all sorts of complexities in the markets of which we retail folks just never see. The guys I work with have been on funding desks and involved with activities which go way, way beyond the type of stuff we even realize is going on. The average investor/trader has no idea how complex the global financial system really is. Heck, I’m involved in it (albeit indirectly) and it blows my mind sometimes.

All that said, you’re right. Institutions are hobbled by their size – and by the restrictions placed on them from a regulatory perspective.

Institutions have some knowledge advantage and some expense advantages, but they are limited by the amount of money they have to deploy and by their institutionalized (for lack of a better word) attitudes towards diversification and turnover. I also think they perform on some very deeply flawed mathematical models. The pros don’t outweigh the cons.

I think a proper study would have to be done by someone outside academia, as they would actually have to understand the techniques used by traders (!), and would have to measure different portfolio sizes (maybe 5-50 issues in stepwise fashion).

That being said, I still believe that (1) most retail traders lose money, (2) good retail traders can consistently outperform the indices they use to select issues from, and (3) 40-50% compounded is probably the bleeding edge of long-term possibility.

I know a lot of academic research indicates that money managers can’t be the market averages and thus we should all index trade. I found myself wondering yesterday if anyone had ever done a study which wasn’t based on timing an index or with returns coming from a portfolio – meaning did they ever look at returns from folks who traded maybe 1-3 stocks at a time? I’ll have to ask my professor friend if he’s seen anything like that. I realize that flies in the face of the diversification idea, but that can work for as well as against.

I’m guessing that’s never really been studied, though. First, how would you do it? Second, academic finance has a really strong instituional bias. No fund could ever just trade a handful of stocks.

I’m looking around and thinking that 40-50% is about the 99.9th percentile.

Opinions?