When you step back and look at the investment landscape, it is sometimes helpful to ask yourself if anything really is different this time; to try to determine what has changed.
The usual answers point to recent return gyrations: the tech bubble’s spectacular burst 10 years ago and the near-death experience of global capitalism in 2008-2009. But, the truth is, we’ve seen all this before in one form or another. Ask your grandparents! The 1929 crash and Great Depression were far more painful to far more people than anything we’ve experienced in recent years.
Michael Aronstein, a fund manager who recently spoke at an industry conference, offers an interesting take on what is fundamentally different today. He said that the primary challenge for investors today, which is different from the challenges faced in the past, is the sheer amount of attention that you are now able to pay to the ups and downs in your portfolio.
“In the last 15 years,” he said, “we have moved from an era where people who were not in the business would check stock quotes, if at all, in the morning when they got their newspapers. Sometimes, you would listen to a radio program on your way home from work, and it might tell you what the Dow Jones Industrial Average closed at.”
Compare that with today, when it’s possible to have a running ticker at the bottom of your computer screen, or a portrait of your investment portfolio continuously updating its various components and arriving at new values every 15 minutes. At the same time, news, information and even fundamental analysis might be flowing into your brain through various sources. “Regarding the economy and its various indicators, there are probably 10,000 data points that we could be looking at in real time,” Aronstein continued. “Combine that with hundreds and hundreds of opinions being thrown around as important every day, and it is a formula for driving everybody insane—and I think that really is what is happening to the investing public.”
In other words, we are constantly second-guessing investment decisions because of the amount of information and opinions being thrown our direction at ever-increasing speeds. You may feel panic, fear or concern—as though you’re missing an opportunity—if you don’t constantly stay informed and pay attention. All this information may well be sabotaging the average person’s returns.
The Dangers of Doomsday
Panic is a particularly dangerous emotion to investment portfolios, and there is some evidence that more of it is being artificially manufactured by the media than ever before. Aronstein pointed out that it has become a pretty good business to give out doomsday information and frighten investors, and a lot of people have become pretty good at it. “It is rare to spend a day watching CNBC or any of the other financial reality programs,” he said, “and not hear somebody come out with the most disastrous, frightening, extreme forecast about what is going on in the world and in peoples’ portfolios.”
That, in itself, helps us get a better handle on this new era of investing. Aronstein said that risk assets like stocks, which tend to be liquid and priced every second, become increasingly unattractive in an environment where there is a negative or confusing spin on their every movement. Who wants to own something that increasingly gives you heartburn and insomnia? As people sell out of the investments in order to avoid this confusion/heartburn factor, risk assets become more attractively priced than their fundamentals would justify. This could raise their future returns the same way value stocks enjoy return advantages over growth companies: they are less attractive to the average investor.
Instead, while not necessarily good for them, investors might become more interested in investments that aren’t traded every day—such as real estate and hedge funds. Because there is no way to watch them change value in real time, market commentators aren’t talking about them or offering doomsday scenarios before the commercial break. Look for these products to proliferate, not necessarily because anybody believes less liquid products offer better returns, but because they reduce stress.
The Risk Premium
The important thing here is for all of us to recognize that a new risk factor has emerged in the investment marketplace. This emerging “information risk premium” suggests that if you can tolerate (or ignore) the uncertainty and doomsday commentaries while others cannot, you might be able to get better returns for your ultimate retirement.
Failing to take all of this information with a grain of salt is not the only mistake we make when investing. Here are a few common mistakes people make time and again when it comes to their portfolios:
- Loss aversion. A common theme for investors is to hold on to a losing position (hoping it will bounce back).
- Putting too much emphasis on the past. Investors tend to pour money into mutual funds that post strong performance numbers.
- Being paralyzed because of too many investment choices.
- Ignoring the costs of mutual funds and other investment products. These costs take away from your returns.
- Failing to understand the odds against beating the market. High transaction and management expenses, faulty psychology, and the law of averages often weigh down actively managed portfolios. Quite simply, it’s hard to beat the market.
Over the course of a long-term investment horizon, addressing these core issues can really make a difference in the “numbers” you see down the road. An investment advisor can help you sort through these issues and keep your portfolio on the right track. iBi