33
Volume2 Issue2
|
S
upporting
Y
our
P
ractice
•
Overconfidence
Markets areunpredictable,more so thanmost people realize (see
Fig. 1
). In spiteof this,many investors tend tooverrate their ability
to timemarkets andpickwinners.
• Statusquobias
What hasbeenhappeningwill continue tohappen—thebelief that
themarketwill continue togodown, or up, because that is theway
it hasbeen trending recently.
STAYINGTHECOURSE
It’s the last twoof thesebiases that tend to influencedecisions ina
volatilemarket suchaswe’ve seen in recentmonths.Whilemarket
corrections arenot abigconcern for individuals investing for the long
term, acertainpercentageof investors tend toget nervouswhen
volatility increases, andmay feel compelled tomoveout of theequity
market in the faceof a sharpdecline.
Very few investmentsprovidebetter capital appreciation thanequities
over the long term, but youneed to staydisciplined to realize those
gains. Investorswho react tomarket conditions andchangedirection
mid-stream tend to fareworse than thosewho stay thecourse.
Oneproblemwithgettingout of anequitymarket indecline is
decidingwhen toget back in. For example, if youhad invested
$100,000 in the S&P500 in1993, that amountwouldhave increased
by $483,320by 2013 (see
Fig. 2
). However, had youmissed thebest
40 singledays ofmarket performance for that sameperiod, youwould
have lost $18,540—adifferenceof over half amilliondollars! This is the
Achilles’ heel ofmarket timers as returns areoften concentrated in very
short time frames.
This impactwas particularlyprofoundduring and after thefinancial
crisis of 2008. Many investorswhopanicked andgot out of themarket
remained risk averse. Theymissed largegains that followed in2009
andbeyond, and somehave still not been able to regain their
pre-crash capital.
Sohowdoyouavoidcognitivebiases affectingyour investment
decisions?Workwithafinancial advisor tocreatea long termfinancial
plan that is right for you... and then stick to it.Market conditions alone
shouldnot bea trigger tochangeyour asset allocation.
InvestmentmavenWarrenBuffet once said: “If youarenotwilling toown
a stock for 10years, donot even thinkabout owning it for 10minutes.”
Hewas talkingabout individual stocks, but the samecanbe said for
theentireequitymarket. So thenext timewe seea sharpdecline—and
wewill—just remember that themost effectiveway tobuildwealth is
not by timing themarket, but by time in themarket.
a
600,000
500,000
400,000
300,000
200,000
100,000
Fully
Invested
Missed 10
Best Days
Missed 20
Best Days
Missed 30
Best Days
Missed 40
Best Days
J.P. Morgan Guide to Retirement™ Presentation (2014)
Staying Invested is theKey to Success
Returns of S&P 500: 1993-2013
+$191,110
(5.49% ret.)
+$483,320
(9.22% ret.)
+$81,400
(3.02% ret.)
+$19,840
(0.91% ret.)
-$18,540
(-1.02% ret.)
Jan. Feb. Mar. Apr. May June July Aug. Sep. Oct. Nov. Dec.
15,500
15,000
14,500
14,000
13,500
PRICE
TSX/S&PComposite Index
One year endingDecember 31, 2014
Fig. 1:
Volatilityof theTSX/S&Pcomposite index in2014.
Fig. 2:
Returnsof theS&P500 for the1993–2013period
