Here's How to Beat Wall Street at Its Own Game

Editor's note: This essay first appeared in Empire Financial Daily from our corporate affiliate Empire Financial Research and has been adapted. Since its original publishing date, Empire has integrated its operations with Stansberry Research... And we're thrilled to welcome its founder, Whitney Tilson, to the Stansberry team, where he will serve as lead editor of our flagship publication Stansberry's Investment Advisory.

In this piece, Whitney shares four tips to give yourself an edge over the professional money managers...

In the past two-plus decades, I've learned some valuable investing lessons...

My journey as an investment professional was unique. In late 1998, I raised $1 million to launch my own hedge fund... without any formal training.

They say it's better to be lucky than good. I'd like to think I was a little of both. Over the next dozen years, I grew assets under management to $200 million, nearly tripling my investors' money in a flat market.

Toward the end, though, I made some key mistakes. I worried about another downturn, so I was too conservative with my portfolio... I took profits too quickly, held too much cash, and shorted too many stocks.

These kinds of missteps are incredibly common, but they destroy your profits over time. That's why I had founded Empire Financial Research – to share the lessons I've learned over the past few decades on Wall Street with individual investors like you.

So today, I'm going to show you four steps you should take to beat the market over the long run – including one that can help put you ahead of the pros...

The first step is the most important: effective portfolio management.

It was only through hard experience that I came to learn that stock picking is only half the battle. The other 50% of investing is managing your portfolio, which can create or destroy as much value as the stocks you own.

To borrow a baseball analogy, your batting average matters a lot less than your slugging percentage. It's not about how many of your picks are right... it's about how much money you make when you're right versus how much you lose when you're wrong.

If you're sitting on a big winner that runs up 50% or 100%, trimming your position can stunt your returns tremendously. The opposite is true, too. When you hang on to your losers for way too long – or worse yet, average down on your position – your losses can mount quickly.

It's critical to have the judgment, humility, and fortitude (which all come from experience) to know when to let your winners run and when to cut your losses.

For example, in October 2012, I had nearly 5% of my portfolio in video-streaming company Netflix (NFLX), right at its multiyear lows. And then it took off, becoming one of the greatest stocks of all time.

But even though I had publicly predicted almost exactly what would happen, I only made about a tenth of what I should have – about $10 million on what could have been a $100 million winner. As the stock moved up, I kept selling and eventually exited way too early.

Had I simply gone away on a five-year vacation, I would have done far, far better – the stock has been a multibagger since then!

It's also critical to give your investments enough time to let your thesis play out...

One of the biggest advantages individual investors have over professional money managers is the lack of short-term performance pressure.

Even the people who manage endowments and pension funds – which, by definition, have multidecade investing horizons – are evaluated on a short-term basis, sometimes even monthly. But sometimes, stocks can remain cheap for years before the tide turns.

It reminds me of something investing legend Warren Buffett once said...

All I want to do is hand in a scorecard when I come off the golf course. I don't want you following me around and watching me shank a three-iron on this hole and leave a putt short on the next one.

Meanwhile, 99% of the money in the world is managed by people who feel like someone's looking over their shoulders.

I don't try to anticipate when other investors' sentiment will change. It's not the end of the world if a cheap stock remains depressed for a while... as long as you have an appropriate investing timeline.

I'd argue the only money you should be investing in the stock market is money you don't need for three to five years. That sort of time frame gives you the patience to wait for high-quality stocks to go "on sale"... and for your cheap stocks to start to move (assuming you're right that they're cheap!).

Next up is another core tenet of value investing: buying when the odds are in your favor. 

In the value-investing community, this goes hand in hand with what the father of value investing, Benjamin Graham, called the "margin of safety."

Imagine you're driving a big truck over a bridge with a lot of other trucks on it that weigh a collective 49 tons. How would you feel if the bridge were engineered to hold only 50 tons?

When it comes to important things that your life – or financial future – depends on, you want to give yourself plenty of room to be wrong. Ideally, you want to consistently buy stocks where you'll double your money (or more) in two to five years if you're right, and only lose a little if you're wrong.

The final way you can position yourself to beat the market is by concentrating your portfolio in your best ideas...

Over the last half-century, a handful of folks figured out that Buffett is an investing genius, so they put their entire net worth into his holding company, Berkshire Hathaway (BRK-B). That has obviously worked out well for them. But I would never recommend such extreme concentration.

I think most investors should own somewhere between 10 and 20 stocks. This provides reasonable diversification, yet also allows you to concentrate on your best ideas.

The idea that any one investor can have real, proprietary insights – what I call "variant perceptions" – across dozens of stocks is hard to imagine.

But by focusing on a handful of situations where you have an edge over the market, you're likely to do far better than you would by owning dozens of stocks.

Best regards,

Whitney Tilson

Editor's note: Whitney has been dubbed "The Prophet" by CNBC for his market calls. He predicted the 2008 crisis... bitcoin's collapse in 2017... and the bottom of the COVID crash to the day. Now, he's stepping forward – alongside our founder Porter Stansberry – to deliver a must-see warning for the stock market.

On Thursday, January 25, they'll share everything you need to know – including the critical step they urge you to take with your cash today... Click here to learn the details.

Further Reading

If you're not adequately prepared, you can suffer catastrophic losses in the market. That's why it's smart to take a few precautions – and follow a strategy – before diving in. Decades ago, our founder Porter Stansberry learned a hard lesson about the danger of chasing thrills... Read more here.

Don't overcomplicate what works for you. Investing is a simple game – but most people ignore the rules that lead to real success. Here are three basic factors that can help you get rich – and the one type of business you should own to compound your wealth... Learn more here.