Buy Stocks. Do Nothing. Profit.

Buying a basket of stocks and letting it sit untouched for 30 years can generate better returns than the S&P 500 index, according to a top Morningstar researcher.

Jeffrey Ptak, chief ratings officer for Morningstar Research Services, first conducted a 10-year experiment starting March 31, 2013, in which he gathered the S&P 500′s holdings and then pulled each stock’s monthly returns over the next decade.

Using those 120 monthly returns for each holding, he compounded its value as if an investor had simply left the “Do Nothing Portfolio” alone and reinvested any dividends — adjusting each stock’s value by monthly total return for all 120 months.

Ptak calculated the portfolio’s total return for each month to form the return stream over 120 months, he wrote Monday on Morningstar. By decade’s end, more than 100 stocks in the portfolio had disappeared, mostly through acquisitions, so the portfolio comprised the remaining holdings and cash.

Holding Its Own

“The Do Nothing Portfolio held its own. It generated a 12.2% annual return over the 10 years ended March 31, 2023, finishing in a virtual dead heat with the actual S&P 500,” he wrote.

“This is a decent achievement when you consider that while the S&P 500 is a passive benchmark, it isn’t a set-it-and-forget-it index. The S&P index committee chooses which stocks to add to the index and which to jettison, actions that the Do Nothing Portfolio eschews.”

Because the Do Nothing Portfolio was less volatile, its risk-adjusted returns surpassed those of the actual S&P 500, he added. In fact, its 0.84 Sharpe ratio — an investment performance measure that adjusts for risk — “would have beaten that of nearly every actively managed large-blend fund over this 10-year span,” he said.

This showing was surprising in part because the Do Nothing Portfolio carried more cash than the index, finishing the decade with about 5.5% in “dry powder,” while the S&P 500 was nearly fully invested throughout, Ptak wrote. “Cash would have dragged on returns as markets rose, but the Do Nothing Portfolio’s holdings were more than equal to the task,” he said.

Ptak expanded his experiment by conducting the same exercise for the two previous decades. For the 10 years ended March 31, 2013, the Do Nothing Portfolio nearly matched the S&P 500 return, with results again looking a bit better on a risk-adjusted basis, he said, as lower volatility led to a better Sharpe ratio for the hypothetical portfolio.

“Remarkably, the same also held true of the 10-year period ended March 31, 2003. In fact, the Do Nothing Portfolio did best over that decade, topping the S&P 500 by nearly 1 percentage point a year,” he wrote. The portfolio “shone even more brightly once risk was factored in, as its Sharpe ratio over the 10 years ended March 31, 2003, exceeded the S&P 500′s.”

Good Returns, Lower Volatility

Ptak concluded: “All told, the Do Nothing Portfolio would have acquitted itself very well over the full 30-year period, earning a slightly higher return than the S&P 500 with less volatility.”

From 1993-2003, the portfolio beat S&P before and after risk, while in the two subsequent decades it surpassed the index only after adjusting for risk.

How did doing nothing beat the index? Ptak offered some ideas.

His virtual portfolio participated in the market’s upside while holding its ground much better when trouble hit, he wrote. The extra cash “likely provided some ballast” during market selloffs in 2000 and 2008, Ptak suggested. The portfolio also leaned toward value more than the index, he added.

For the most recent decade, it appears that “the way the portfolio let its winners run and refrained from entering new positions” made the difference. It was more concentrated in its top holdings than the S&P 500, with Apple accounting for more than 11% of the portfolio by March 31, 2023, versus 7% in the index, Ptak wrote, noting that Apple was “invitingly” cheap earlier in the decade.

The portfolio didn’t have to make room for new index additions or replace delisted holdings, so stocks like Apple could run further than they otherwise would. “This can be a competitive advantage, as larger institutions, like mutual funds, lack the same ability to concentrate to this extent,” he said.

Ptak says there are four key lessons from the experiment:

• Don’t insist on being fully invested at all times because some extra cash gradually amassed can cushion blows and counter the winning stocks’ heavier concentration in the portfolio.
• Don’t equate success with particular buy and sell decisions. The fewer decisions the better. “And this seemed to hold true for even seemingly mundane choices like whether to continue holding 500 stocks in the portfolio or making do with fewer.”
• Acknowledge the power of letting winners run, although this may not suit those averse to allocating bigger portfolio shares to a few names.
• Leave intuition at the door. It may seems that a doing-nothing strategy won’t work, yet markets “repeatedly upend our expectations,” he wrote. “Patience and humility beat action and good intentions.”

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