Investments are kind of like soap . . . the more you handle it . . . the smaller it gets.
In times of severe volatility, fear starts to engulf our minds. Today’s media, in large part, triggers our fear mechanisms. The drumming of markets crashing, global growth is eroding, or the Federal Reserve is going to cause a recession and your savings will be wiped out!
As humans are wired to do something – the lion is going to eat me response. While not everyone has this actual situation, our brains are wired this way from evolution as a protection mechanism. For those into biology, look up the amygdala.
In our present day lives, we still react to external stimulus inducing fear – the media, the “experts”, our statement values. We have to do something. Anything, just do something. Get off the “X.”
However, this might not be the best course of action. Our ancestors learned lions, bears, and the big cats can run faster and climb better that we can. They survived and flourished by using their intellect to design protective mechanisms, strategies with groups to outsmart predators. We contend that we need to do the same with our financial lives.
A while ago, I heard a saying “Investments are like soap, the more you handle them, the smaller they get.” There is a lot of wisdom in this saying. It underlies why the average investor significantly under performs most broad asset classes. (1)
In the chart below, we look at various asset classes. (1) An “Average Investor” asset class is created based upon Delbar Inc, which utilizes the net of aggregate mutual fund sales, redemptions and exchanges each month as a measure of investor behavior.
We have written in the past about trying to time the market – just doing something. See our post “Emotional Biases – The Herding Behavior” located here. A recent example of this occurred on December 24, 2018 and December 26, 2018. On Christmas Eve the market as proxied by the Dow Jones Industrial Index dropped 2.91% – the worst Christmas Eve in the 114 year history. The brink of the “Bear Market” the media pounded. The next trading day, December 26, the Dow Jones Industrial Index closed up 1086 points – its biggest one-day point gain ever! Other equity indexes has similar stories.
So what happened if you sold? You did something! Well, you gave up 16% in price appreciation over the next 37 days! (2)
We contend that it is the fear that grips our emotions and makes us do something . . . most of the time it is the wrong thing to be doing at the time. We handle the soap, again and again, until we feel better.
In our philosophy, we hope to instill in people to look at a longer timeframe and to focus on how portfolios are constructed to help meet future goals versus short term price fluctuations . This is not easy, and why a financial advisor needs to be well in tune with your long-term goals and present day needs. Only then, can they help guide and provide perspective on “the now.”
If this resonates with you and would like to learn more about how you can get out of the emotional reaction trap give us a call we would be happy to share our perspectives.
For clients, if you find yourself in fear at any point, call us and we will recap your specific situation and what we have done.
Sources & Disclosures
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. All performance referenced is historical and is no guarantee of future results.
All investing involves risk including loss of principal. No strategy, including rebalancing and diversification, assures success or protects against loss.
All indices are unmanaged and may not be invested into directly.
The Standard & Poor’s 500 Index is a capitalization weighted index of 500 stocks designed to measure performance of the broad domestic economy through changes in the aggregate market value of 500 stocks representing all major industries.
The Dow Jones Industrial Index is a price weighted index of 30 stocks designed to measure performance of the broad domestic economy through changes in the aggregate market value of 30 stocks representing major industries.
Past performance is not necessarily a reliable indicator for current and future performance.
The chart provided is a hypothetical example which is shown for illustrative purposes only and does not predict or depict the performance of any investment.
1. JP Morgan Guide to the Markets 4Q2018, page 64.
2. S&P 500 Jones Indices