Investors too often redirect their focus from the destination to the journey. Much like in other walks of life, we can lose focus, making us susceptible to capitulation or giving up at the exact moments when we require fortitude and resolve.
That is, investors are hard-wired to be procyclical, chasing the winners and selling out of the losers because of a yearning to make money work harder for us. This is not just conceptual, we can see it directly in the fund flow numbers.
Therefore, it is vital that as investors we remain vigilantly aware of how animal spirits can drive irrational decision-making, and that we adopt a reasoned framework for investing. Behavioural errors can wreak havoc on long-term portfolio returns due to excessive and unjustified turnover.
A Step-by-Step Guide to Staying the Course
The best thing an investor can do when contemplating change is to reflect on their goals. Would the investment change align with the original investment plan or strategy for reaching well-defined goals? The key question to ask is whether anything has fundamentally changed since setting the original strategy or whether it’s just that the client is disappointed with the progress towards goals.
- If something has fundamentally changed, the next question to ask is whether you can clearly identify what has changed. Write it down, then balance this by writing what it might mean if you’re wrong. This should include any misjudgment risk as well as the added costs if you decided to change investments. You will often find that the change you desire is not necessarily going to increase the probability of reaching your goal/s.
- If it has “just” disappointed you, but nothing has fundamentally changed, the likely best option is to stay the course. By thinking probabilistically and remembering that investment markets never move in straight lines, you may avoid the perils of trying to time the market. Furthermore, you may benefit by doing the opposite to your intuition and teach yourself to be a contrarian.
Staying the Course vs. Timing the Market
Investing, like many things, often involves taking the thorns with the roses. Over dozens of years and through all investment literature there is one golden thread–the evidence clearly favours time in the market over timing the market.
This can be illustrated in various ways, but one of the most compelling is to simply reflect on the cost of missing the best days in the market. An investor can hamper the likelihood of reaching their goals by overzealously trying to time the market.
In the world of investing, market timing is perceived more as a dark art than a legitimate investment approach. We would find it difficult to defend market timing, given the evidence, with very few renowned long-term market timers and many disastrous tales. Market timing relates to one's ability to predict price movements, and we don't think all asset-allocation changes should be viewed through this lens.
But “staying the course” to our way of thinking is subtly different to even “time in the market”. If, after your reasoned analysis, you believe making a change will help you reach your goal, it should be embraced as it aligns to the destination. This is what we call staying the course. Yet, if the change is speculative, or worse still, in reaction to disappointing news, it should be cautioned and recognised as part of the journey. A classic symptom of timing the market.
Align Every Change to Your Goal
It is important to reiterate that investors shouldn’t avoid change altogether, however must be far more calculated when they do make change. Valuation-driven investing is a good example of measured change in action, where Seth Klarman paints a thoughtful picture of the approach:
"While some might mistakenly consider value investing a mechanical tool for identifying bargains, it is actually a comprehensive investment philosophy that emphasises the need to perform in-depth fundamental analysis, pursue long-term investment results, limit risk, and resist crowd psychology.”
Bringing this together, we believe that “staying the course” is the right approach, patiently allocating to assets that will help you achieve your goal. So, if you catch yourself getting down about the state of the equity market or trying to predict what’s next, keep in mind these concepts and always remember why you are investing in the first place.
