When we initially plan an investment strategy we think in a long-term framework. What do I need to do to retire comfortably, or sustain withdrawals in retirement, afford long-term healthcare cost, leave an inheritance, travel the world, and so on and on. An important part of that planning is figuring out our own psychological approach to risk and reward. How many sleepless nights am I prepared to lose in pursuit of higher returns? What mix of safer assets (like bonds and other fixed income holdings) and riskier assets (like small-cap stocks, commodities and international) is best suited to my risk tolerance?
Unfortunately, all this careful planning can easily go by the wayside once we actually invest our portfolios in the market and start living day to day. We become very jealous, wild risk takers when the bull is in full stampede and feel left out while in our boring ole very conservative portfolio. Every day we see the endless reporters on the financial news shows so excited about today’s 100 plus point gain in the Dow, waving their arms hysterically and, of course, interviewing traders and money managers who think we are in the middle of something huge. We want in on that! Suddenly, our all-bond account, or the 25-75 split between equities and bonds that seemed to match and reflect our risk tolerance at the outset doesn’t seem adequate. So we start to sell off those safe and conservative holdings and pour the funds into whatever ticker symbols the brilliant (hindsight) talking heads on the financial news shows are flashing on the screen.
And then it all goes wrong. The market goes into a deep correction and within days the major indexes are off their highs by more than 5 to 10%, still heading south. On those same financial news shows, bullish excitement gives way to panicky bear-toned warnings. The panel discussions are filled with gloom-and-doom bears telling us that the bottom is falling out of the economy. Our stomachs tie up in knots as we look in shock at that new 65-35 split between stocks and bonds we rushed into just a few weeks ago. All that money being lost! Time to dump those now dreadful equities and get back into bonds and the conservative fixed income holdings right away.
And so it goes, with each cycle of Fear and Greed whittling away portfolio value as we sell low, and buy high, with memories failing after each attempt to find the non-existent investments that will give us all the reward without any of the risk.
(Don't get caught up in the above cycle. Start your PlanForward investment account today.)