This week, I'll be giving a presentation to a non-profit group called Smart Women Smart Money in Salt Lake City, Utah. I'm very much looking forward to it because women make far better investors than men, and will better understand my presentation. It's not often one gets a chance to preach to the choir.
Boys will be boys One of the most famous investment studies was entitled "Boys will be Boys - Gender Overconfidence and Common Stock Investment." This study, published in a 2000 edition of the Quarterly Journal of Economics, was conducted by Terrance Odean of the University of California, Berkeley, and Brad Barber of the University of California, Davis and is discussed in this video by Jill Schlesinger.
The study examined the stock trading patterns of men and women, and found that men trade 45 percent more than women. Due to the fact that trading reduces returns, the study determined that the average women's return was reduced by 1.72 percentage points annually, while the men's performance was reduced by 2.65 percentage points. Thus, women outperformed men by nearly a full percentage point.
Curiously, the difference was even more pronounced when comparing single women to single men. Single men traded 67 percent more than single women, allowing single women to outperform single men by 1.44 percentage points a year.
Odean and Barber tested several hypotheses to explain the difference, but ultimately settled on the explanation that men have been shown to be more psychologically overconfident than women. Overconfidence leads to more trading which leads to lower returns.
Women and investing simplicity
Extrapolating the lessons of the Odean and Barber study, I see the same thing in my financial planning practice. Women generally embrace the wisdom of indexing more easily than men. As I go through the dismal odds of an active portfolio beating a low cost diversified indexed portfolio that owns the world, I see more nods from women.
On the other hand, men seem to view indexing as a guaranteed way to underperform the market, even if only slightly. Many cannot accept that what they believe to be logical is actually emotional. Whether that "logic" is careful research or the latest widely-held view, such as thinking gold will continue to skyrocket, it still comes down to our pesky emotions leading us astray. In short, men are more overconfident in their abilities to pick investments or at least to pick the right active investment advisors, and often can't grasp that technical analysis and market newsletters are merely noise to be ignored.
Women will more often recognize that indexing is a guaranteed way to outperform the vast majority of investors. Much like their willingness to stop and ask for directions, they seem to readily acknowledge that they know they don't know what the market will do, or what the next hot investments will be.
Lower levels of overconfidence help women accept the simplicity of owning a global index portfolio and doing some occasional rebalancing.
I'm not trying to pick on my own gender, I'm merely pointing out yet another Mars/Venus difference. And allow me to confess that I lean toward overconfidence as much as the next guy. I just express it in other ways. In fact, neither gender is immune to displaying overconfidence in investing, it's just that my gender tends to succumb to it more frequently.
Irrespective of your gender, remember these simple rules:
- The more you trade or buy funds that turnover your portfolio, the lower your return is likely to be.
- Buying an investment you feel will be hot is likely to be harmful to your wealth.
- The more complex your portfolio, the lower your returns are likely to be.