During the last quarter, investors experienced a lot of volatility in the markets. Although the markets recovered considerably by the end of the quarter, most diversified portfolios are still down slightly for the quarter (but remain positive for the year). Fortunately, the last 2-3 years have had such strong returns (for internationally diversified portfolios) that you may have started to think that the markets never go down. Sooooooo…. if you’ve felt a bit of a shock recently, then let this serve as a gentle reminder that the “market winds” can change very quickly and with very little warning. You cannot predict the future of the markets, so market timing is not a realistic way of preventing losses, unless you want to risk missing out on the strong growth that the markets deliver over the long term.
Is it any surprise that the average investor hates losses? Who wants to see their hard earned money go up in smoke? However, their perceptions of what constitutes a loss, and the actions they take to avoid them, cause large and permanent reductions in their profits, according to a new study by Dalbar, Inc., a Boston-based market research firm.
Because they have consistently dumped mutual funds during down markets and repurchased during up markets, investors have earned far lower returns than the markets offered, the company said. Over the past 20 years “the S&P 500 and Aggregate Bond Index have posted impressive returns. Yet the average investor has earned only a fraction of these results,” the study found. From 1986 through 2005, the S&P 500 Index, which represents the majority of the U.S. stock market, gained 11.9% per year, Dalbar said. Yet, its study of purchases and sales of stock mutual funds by individual investors over that period indicate the average investor may have realized a return of only 3.9% a year, or 77% less than the market offered.
Investor’s own behavior—i.e., selling low and buying high—hurt their returns and changing that behavior could dramatically improve their investment experience. “Improving investors’ actual returns depends more on correcting behaviors than on the performance of the (mutual) fund,” Dalbar said. The average investor makes his biggest mistakes when trying to avoid losses, it said. Over the past 20 years it estimates that the average investor guessed the direction of the market right 75% of the time when it was going up, but less than half the time when it was going down.
The study also found that systematic investors—those who regularly put money into the markets regardless of current conditions—did better than those who bought and sold as the markets fluctuated. Also doing better were investors who held asset allocation funds that sought a constant balanced exposure to stock and bond markets.
Now, as I mentioned in my last quarterly letter, I have moved Keystone Financial Planning to 330 East Main Street in Macungie, PA. My website (www.KeystoneFP.com) has my new address, phone number, and directions to my office (refer to the Contact Us page). I have also included the directions with this quarterly mailing. Please make sure to follow them when you come to my office (to avoid any confusion about where to park). Also, the Borough of Macungie is planning a ribbon-cutting ceremony for Keystone Financial Planning in the fall sometime, and all of my clients will be invited, of course! I will keep everyone posted (via email) regarding the date and time of this exciting event.
I appreciate your business and your friendship. Please feel free to call if you have any questions or concerns.
About Christopher Jones
Christopher Jones is the Founder and President of Sparrow Wealth Management, a fee-only financial planning and investment management firm. Before entering the investment field, Chris was a management consultant for Deloitte Monitor. He graduated summa cum laude from Brigham Young University with a B.S. in Economics and a minor in Business Management.