A Very Timely Treatise on Investor Behavior

Think of this as a treatise on investors... not investing. Sometimes in this field there are more gains to be had studying how we behave.

Before 2016 gets any more over than it already has, let's take a moment to reflect on some of the basics. This is equally relevant for clients and prospective clients alike. It's a reminder of how we might all as investors (collectively) do better for ourselves in the long run. These thoughts are primarily borrowed from my favorite author, Nick Murray, with his permission and adapted in a few select spots.

Part One: Principles to Remember

• Generally speaking, my experience has been that successful investing is goal-focused and planning-driven, while most of the failed investing I’ve observed was market-focused and performance-driven.

• Another way of making the same point is to tell you that the really successful investors I’ve known were acting continuously on a plan—tuning out the fads and fears of the moment—while the failing investors I’ve encountered were continually (and randomly) reacting to economic and market “news.” 

All of my clients are working on multi-decade or even multigenerational plans, for such great goals as education, retirement and legacy. Current events in the economy and the markets are in that sense distractions of one sort or another. For this reason, I make no attempt to infer an investment policy from today’s or tomorrow’s headlines, but rather align clients’ portfolios with their most cherished long-term goals. 

• I don’t forecast the economy; I make no attempt to time markets; and I cannot—nor, I’m convinced, can anyone else—consistently project future relative performance of specific investments based on past performance. In a nutshell, I’m a planner rather than a prognosticator. I believe my highest-value services are planning and behavioral coaching—helping clients avoid overreacting to market events both negative and positive. 

• My essential principles of portfolio management in pursuit of my clients’ most important goals are fourfold: 

  1. The performance of a portfolio relative to a benchmark is largely irrelevant to financial success.
  2. The only benchmark we should care about is the one that indicates whether you are on track to accomplish your financial goals.
  3. Risk should be measured as the probability that you won’t achieve your financial goals.
  4. Investing should have the exclusive objective of minimizing that risk to the greatest extent practicable. 
All of us would be better investors if we just made fewer decisions.
— Daniel Kahneman, Nobel Prize-winning behavioral economist

• Once a client family and I have put a long-term plan in place—and funded it with the investments that seem best suited to its achievement—I very rarely recommend changing the portfolio beyond its regular rebalancing. In brief: if your goals haven’t changed, don’t change the portfolio. My sense is that the more often people change their portfolios, the worse their results become. I agree with Daniel Kahneman, who said, “All of us would be better investors if we just made fewer decisions.” 

• Going back to 1980, the average annual decline within the calendar year in the S&P 500 has exceeded fourteen percent. Even still, annual returns have been positive in the majority of those same calendar years, and the Index has gone from 106 at the beginning of 1980 to nearly 2,200 at 11/30/16 market close. I believe the great lessons to be drawn from these points are that—historically, at least—temporary market declines have been very different from permanent loss of capital, and that the most effective antidote to volatility has simply been the passage of time. I can’t predict that it will always work out this way. I can only fall back on the wisdom of the great investor and philanthropist John Templeton, who labeled these words as some of the most costly in investing: this time is different (see rule No. 11).

The investor who says, “This time is different,” when in fact it’s virtually a repeat of an earlier situation, has uttered among the four most costly words in the annals of investing.
— Sir John Templeton (1912-2008), mutual fund pioneer and billionaire

• The nature of successful investing, as I see it, is the practice of rationality under uncertainty. We’ll never have all the information we want, in terms of what’s about to happen, because we invest in and for an essentially unknowable future. Therefore we practice the principles of long-term investing that have most reliably yielded favorable long-term results over time: planning; a rational optimism based on experience; patience and discipline. These will continue to be the fundamental building blocks of our investment advice in 2017 and beyond.

Part Two: For fun, some Current Observations

• 2016 began with what have been termed the worst first six weeks in equity market history—the S&P 500 declined more than eleven percent from its 2015 close through February 11. In June, the market went down nearly six percent in a (trading) day and a half following the Brexit vote. And there was a moment, somewhere around 2:00 a.m. eastern time after the presidential election, when the Dow Jones Industrial Average was down nearly 800 points! Yet despite all that unnerving market volatility, the S&P 500 closed out the first eleven months of the year up. In a sense, then, the equity market put on a tutorial in 2016, highlighting the wisdom of tuning out shocking current events and the subsequent volatility. During such episodes, it seems to me that the best investment advice I can offer is always, “Turn off the television.” 

• There can be little doubt that the major market imponderable in the last third of the year was the U.S. presidential election. Indeed, the pall of uncertainty was so heavy in the run-up to the voting that the S&P 500 managed to close lower on nine straight trading days—a feat it had not accomplished since 1980. Thus, the most important aspect of the election from the market’s perspective may simply be that it’s over. We know the outcome, and that’s no small thing. Because in our experience, what the equity market hates most is uncertainty. It can deal with anything, as long as it knows what it’s dealing with.

• It is not at all a political or partisan observation but a simple statement of fact that the incoming presidential administration, enjoying majorities in both houses of Congress, is likely to pursue pro-business, pro-capital, pro-growth policies. Everything else being equal—which it almost never is—these policies might prove favorable to the long-term equity investor.