The FOMO (fear of missing out) is a real issue in our society today. Relating it to investing, it is the fear of missing out on share exchange gains.
More specifically, investing FOMO is when you watch a share price soar to new highs, and you realise you missed out on the opportunity. You might spend the next hours, days, weeks thinking about what could have been the returns. This type of self-talk and do-it-yourself financial planning is damaging to your mental health and retirement goals.
Another phrase we often hear is buying in the gloom, selling in the boom. It sounds easy and logical, but most people end up doing the quite the opposite – buying in high and selling in low.
According to behavioural finance, share market returns are one area of finance where human psychological behaviours are often expected to influence market outcomes and returns. It is assumed that investors are not perfectly rational and self-controlled. Behavioural finance extends this analysis to the role of biases in decision making, such as the use of simple rules of thumb for making complex investment decisions.
For example, during the recent market downturn in March 2020, Morningstar has estimated that KiwiSaver members moved $1.4 billion or more from growth funds to balanced or conservative funds.
According to Trustees Executors, which provides registry services for about 25% of all KiwiSaver money, thousands of KiwiSaver investors were spooked by seeing their balances fall by 15% or more and have switched between funds since COVID-19 started shaking the markets.
Unfortunately for those investors, who switched to conservative funds, they crystallised their losses and missed the subsequent recovery as the global markets started to rebound in April and the New Zealand market soared almost 25% from 24 March.
We have to understand that crises are a fact of life in financial markets. Over the past 30 years alone, we have witnessed the early 1990s recession, the Asian financial crisis in 1997, the Tech crash in 2000 followed shortly thereafter by 9/11 in 2001, the 2008–2009 global financial crisis, and the 2011–2012 European sovereign debt crisis. Each of these crises was different, but there is a common thread running through them – they all end.
Investors who embraced the risk and remained invested during the crisis markets, like the ones mentioned above, eventually witnessed the reversal and were rewarded.
And of course, some investors try to time the market, by switching from growth or balanced to conservative with a plan to switch back when they see the bottom of a market and potentially profit on the upswing. They hopefully may eventually realise that as the market falls there will be plenty of false alarms around recoveries and no one rings a bell to signify the recovery. Before you know it, the losses are crystallised.
For 25 years, Dalbar – a leading financial services market research firm, has analysed and published reports on investors’ market timing successes and failures through their net purchases and sales. This form of analysis, known as the ‘Guess Right Ratio’, examines the effects of investor decisions to buy, sell and switch in and out of investments over short and long-term timeframes. The purpose of this study is to determine how often investors correctly anticipate the direction of the market.
Unfortunately for the average investor, the guesswork did not produce superior gains because the dollar volume of bad guesses exceeded the dollar volume of right guesses. Even one month of wrong guesses can wipe out several months of right ones.
According to the Dalbar’s 2019 QAIB report, due to switching in and out of markets the average equity fund investor underperformed the S&P 500 equity index by 3.46% in the last 10 years and underperformed by 4.53% in the last 5 years. The average fixed-income fund adviser underperformed the Bloomberg Barclays Aggregate Bond Index by 2.78% in the last 10 years and underperformed by 2.92% in the last five years.
The Dalbar data leads to the inescapable conclusion that most investors panic and exit at the wrong moments, impairing the returns. Most investors would be better off if they stuck with a simple approach: long-term holdings of diversified, low-cost managed funds.
Case in point, there was a record trading day in the last 60 days with a performance on global markets for the day equalled the euphoric rise following the Great Depression but sadly many investors were not in their seat to receive the return and had instead parked their capital to the side-line through fear of a negative outcome.
Benjamin Graham, the father of value investing and author of The Intelligent Investor, said “An investment operation is one which, on thorough analysis, promises safety of principal and a satisfactory return. Operations not meeting these requirements are speculative.”
It is important to understand the value of a goal-based investment strategy with sound financial advice – such advice will encourage investors to stay focussed and take a long-term stance on investments and KiwiSaver.
Unlike speculation, a long-term investing strategy does not hinge on picking the winners or timing the market. And the truth is, you don’t need the big wins to reach your goals.
The information provided, or any opinions expressed in this article, are of a general nature only and should not be construed or relied on as a recommendation to invest in a financial product or class of financial products. You should seek financial advice specific to your circumstances from an Authorised Financial Adviser before making any financial decisions. A disclosure statement can be obtained free of charge by calling 0800 878 961 or download it here.
