Reacting to market
Let’s imagine for a moment that on your daily walk to work, your normal route takes you past a pawn shop that is known to display expensive jewelry. Over the past couple of days, you’ve noticed that the jewelry on display has been marked down. You know in the past, when the jewelry went on sale it was quite temporary and, in fact, in the past the prices went up more often than they went down.
The store also buys jewelry from the public, and over the same recent time, the prices the store is willing to pay decline too.
The question is: would you pick this time to sell some of your own jewelry, or to buy some while it’s temporarily on sale?
The peculiar thing about this thought experiment is that whenever you’re talking about jewelry, clothing, groceries or pretty much any everyday item in the marketplace, the response is obvious. But when we’re confronted with the exact same situation regarding investments in the market, the general public’s immediate inclination is exactly the opposite.
Why should that be? Psychologists have had a field day exploring the ideas of herd mentality and recency bias and a lot of other mental shortcuts (psychologists call them “heuristics”), but nobody has ever managed to explain why our instinctive reaction to price movements in investments should be different from our instinctive reaction to virtually everything else in the global marketplace. We know that fear plays a role, but how rational is that fear when every market decline in history has been followed by subsequent record highs? We know that fluctuations in our net worth are tied to our sense of well-being, but why should we feel less confident when the paper value of our holdings is 2-3% lower today than it was yesterday? Do we feel that much more confident when the markets are UP 2% or 3%?
The lesson in all of this is that our brains are wired to be dysfunctional investors. Now that the markets are becoming unpredictable and stocks are going on sale, tendencies to make bad decisions are being triggered. If the same thing were happening at the grocery store or in that pawn shop display, we’d all be cheering this great (albeit temporary) opportunity. The fact that so many are not cheering the current opportunities speaks to psychology not good decision making.
We appreciate that most of the calls we have fielded in recent weeks have been our clients telling us they understand that we have planned for this and that they appreciate our advice to stay the course. If you are uncomfortable know you are not unusual and whether you are a client or not, we welcome you to call to talk it through.