|
|
MAKING CENTS OUT OF THE NEWS
Blog #26
(July 9th, 2009)
VOLATILITY - THE DEVIATIONS WE LOVE TO HATE
By Tom McAllister, CFP™
Anyone who thinks it's easy to turn off our emotions when making decisions about our money had better think again. Even Nobel prize-winning economist Harry Markowitz proved a poor example of an "economic man" (one who acts in his own rational self-interest, ignoring emotion). Money Magazine's Jason Zweig's new book reveals Markowitz's non-scientific method of selecting investments for his own 401K plan at Rand Corporation. Markowitz admits that what he should have done is "computed the historical co-variance of the asset classes and drawn an efficient frontier." Instead, he admits, "I visualized my grief if the stock market went way up and I wasn't in it - or if it went way down and I was completely in it. So.…I split my contributions 50/50 between stocks and bonds.
Markowitz is like all investors, hating the up-and-down swings in the market that cause them stress and lost sleep. Worst of all, volatility triggers fear, and fear is an emotion that induces behavior which causes investors loss off serious money.
I've written often about fear and greed; the greed that causes investors to buy at the top; the fear that causes them to sell at the bottom. This inability to stomach the market's ups and downs is the reason investors benefit/ from working with a financial advisor. Good advisors serve as emotional anchors, keeping the highs from being too high, and the lows from being too low.
Advisors who have survived over the long term, 47 years in my case, have had to discipline ourselves to operate rationally, not making decisions from our emotions. Advisors who cannot do that simply don't last in the profession.
Good advice isn’t enough; clients also need portfolios they can live with. Don Phillips, CEO of Morningstar, recently presented an analysis of how U.S. mutual fund investors fared in the ten years ending December 2007, comparing this to the performance of the funds in which they invested. Morningstar factored in when investors bought and sold and the returns during the periods they owned the fund shares.
For "boring" balanced funds, the annual investor return was 7.88%. Because of when they bought and sold, investors narrowly outperformed the return they would have received if they simply bought at the beginning of the ten years and held on – that strategy would have generated 7.80% per year.
Mutual funds invested in narrower sectors such as tech, health care or energy performed much better than balanced funds, with an average annual return of 9.53%. Here's the interesting part: the investors in those sector funds realized a return of only 6.75% annually. Because most investors couldn't stomach the ride in the sector funds, they sold out and bought in at the wrong times.
It's obvious that/ not only can narrow sector funds boost returns, but also that these funds are a good fit for the higher-risk portion of a portfolio. However, it's also obvious that, to benefit from those higher returns, most investors need help from a financial advisor if they are to have //even A remote chance of getting the timing right.
Is there a legitimate place for fear when it comes to investing in the stock market? Yes! All of us should fear letting our emotions determine our decisions!
With all the rapid changes in our economy and in the investment markets, there are many investors who would benefit from more consistent guidance. We are currently accepting new financial planning and investment clients, and would appreciate your referrals.
|
| |
| |
______________________________________________
| |
Click To Print This BLOG
