The index of leading UK companies listed on the stock market is known as the FTSE 100. One popular investment strategy is simply to try and do as well (or badly) as the index, by investing in a tracker fund. But is that right for me – or should I try and beat the index?
Tracker funds
One benefit of investing in a tracker fund is that it immediately exposes my portfolio to a broad set of large UK companies. If I had £1,000 to invest, I would not practically be able to divide it evenly across each individual FTSE 100 share in a cost-effective way. But buying shares in a tracker fund that basically buys the index would allow me to do just that. That would offer me the benefit of diversification.
Over the past year, the FTSE has outperformed the FTSE 250, which has fallen 14%, and the FTSE 350, which is up 1%. But although in relative terms the FTSE 100 has performed well, in absolute terms, the gain is not compelling to me. The index has risen 5% over the past 12 months. That is in positive territory, but it is still below the rate of inflation. I could also have benefitted from dividends, but even including them my portfolio would be worth slightly less in real terms than it was a year beforehand.
So, should I invest in individual shares and try to beat the FTSE 100 instead of matching it by owning shares in a tracker fund?
How to beat the FTSE 100
My intuitive answer is: yes.
The challenge comes when thinking about exactly how I might get better investment results than the FTSE 100 overall.
I can do that by only buying the better shares of the index and not investing in what turn out to be the dogs. But anyone could try to do that and indeed lots do, with mixed results. The challenge is figuring out what the best shares to buy are.
Active investing
That is a form of active investing, as opposed to the passive investing of owning a tracker fund.
To try and do it successfully, I first need to understand about how the stock market works in general. Why are some shares valued more highly than others, for example, and how can I tell the difference between a low-priced share that can do well in future versus one that will just keep sinking lower?
Once I understand the market, I would get to grasps with individual FTSE 100 shares. My focus would be on finding great businesses I felt were currently trading at attractive prices, like JD Sports.
I may choose wrongly, of course, and that is why I diversify across multiple FTSE 100 shares in my portfolio. But if I purchased a selection of attractively priced great businesses, hopefully over the course of time their prices would reflect their excellent prospects. That is why, as a long-term investor, I would try to beat the FTSE 100 rather than just match it!