In 2004, an intensive study was conducted on investor-investment behaviour. For the period of 1984-2004, a U.S. mutual fund had an average annual return of 10.7%. What’s alarming is that during this same time period the average mutual fund investor enjoyed an annual return of only 3.7%.
It doesn’t take a math whiz to see that 7% seems to be missing.
This study still rings true today for a very simple reason: Investor Behaviour.
As humans we naturally gravitate toward wanting to “do better”. All too often we chase the idea du jour, claim this is better, that doesn’t work anymore, my neighbour made money doing it that way, the end of the world is upon us, get me out, etc.
Fear and greed rule the day.
All too often, we get caught up in the “fund of the year” or growth is better than value or technology is better than large cap or Europe is toast and there is a solution. It is a very simple, diversified portfolio, adjusted just once a year back to its original asset allocation that would likely outperform 90% of your neighbours' investments.
Most investment advisors get caught up in their analysts daily, hourly and by the minute predictions. No one can accurately predict, economies, sectors, regions, stocks, interest rates, etc. every time. If we concentrate on the one factor we can control – our behaviour – we don’t need to focus on the minutiae.
In his latest book Behavioral Investment Counseling, Nick Murray outlines three principles and three practices which will put any investor in the top ninety percentile of long-term real-life returns.
Principle: Faith
We have to believe, as it has always happened in the past, our only true test, that life will go on and that it will get better over time. It always has and always will.
Principle: Patience
It takes patience to wait through all the fads and fears constantly being thrown at us from all the talking heads in the media.
Principle: Discipline
In order to fend off the daily rhetoric you must continue to deposit money to your plan on a systematic basis, the discipline to stay the course when naturally we want to say “this time is different”.
Practice: Allocating Your Assets
Ninety-three percent of all investors’ returns can be attributed to Asset Allocation. This is the long term mix in a portfolio of stocks, bonds and cash. The proportion of each of these has the largest impact on your return (if you have the right behaviour).
Practice: Diversification
We must be certain we are not under diversified, but equally important not to be over diversified either. I like to think this as idea diversification.
As an example, in 1999 Technology was the big thing. Dot.coms and IPOs were happening at the speed of light however there was little financial of business foundation beneath much of this activity. If your portfolio was rich in tech stock in 1999, how did you fair by the end of 2001?
If you had divested your money in 1999, you would have softened the blow by more than eighty percent two years later.
Practice: Re-Balancing
This is the easy part. A year after you have set up a portfolio, revisit it to ensure you are still in the same weighting as you wanted to reach your financial goals. This should be done each year at the same time. This practice will automatically force you to take your winners and feed your losers, which will in turn increase your long term, real-life returns, and make them better than even the returns of the investments themselves.
Let’s continue the conversation.
Email me any time patrick@nicolandassociates.ca