I’ve made reference to the site MoneyChimp to show how over longer time periods, volatility decreases. Let me offer the observation that human nature what it is, a loss is felt twice as strongly as the same magnitude of gain. i.e. we feel twice as bad at a 5 point loss on the S&P as we feel good about a 5 point gain.
Now, let’s take the lesson from MoneyChimp and look instead at shorter time spans. Random Walk suggests that at any given moment it’s 50/50 whether a given stock will tick up or down. That would stand to reason. For any given day, the number is a bit better, about 52%. But given that we’d feel twice as bad on the down days as the up days, and the magnitude of the daily change is about the same, on average we’d feel twice the pain on 48% of the days as we’d good on the 52%. This adds up to being pretty miserable in the long run despite a rising market, averaging over 10% per year in the long run. What is the answer? Stop looking at the daily noise that will only bring misery. Add to your saving with systematic investing, and reallocate according to your long term needs. If you are properly allocated, you don’t need to look at your balance every night or even every month.
JOE
It seems that Liz Ann Sonders, Chief Investment Strategist at Charles Schwab and Co. saw the same Dalbar report I mentioned yesterday. She crafted an article for Schwab’s quarterly client magazine On Investing titled “Market Timing Doesn’t Work” in which she offers additional data, such as; If you missed the top 40 best single market days (less than 1.6% of trading days) over the past 10 years, your annualized return plunged to -6.4% versus the S&P 500’s +8.4%. She adds that nearly 30 of those best 40 days came within two weeks following a worst market day.
The problem with market timing, as I’ve stated before, is you need to be right twice, first bailing out, and then knowing when to get back in. As John Bogle has been quoted, “After nearly 50 years in the business, I do not know of anybody who has done it [market timing] successfully and consistently. I do not even know anybody who knows anybody who has done it successfully and consistently.
JOE
I read this tidbit in the Boston Globe this past weekend:
“Dalbar Inc., a Boston-based financial services research firm, has been measuring the effects of investors’ decisions to buy, sell, and switch into and out of mutual funds since 1984. The key finding always has been that the average investor earns significantly less than the return reported by their funds. (For the 20 years ended Dec. 31, 2006, the average stock fund investor earned a paltry 4.3 average annual compounded return compared to 11.8 percent for the Standard & Poor’s 500 index.)” and it helped to reinforce my belief in “Buy and Hold” and “Don’t Panic“. There are the never ending debates on managed funds vs. index funds, and how much to pay an advisor, but when the data show that the average investor has actually lagged the market by 7.5% per year, something is terribly wrong. In these 20 years, $10,000 in the S&P would increase to $93,075. Investing in a low cost (I use a cost of .18% for this math) fund would yield $90,124. But the average investor has seen his $10K grow to only $42,478.
JOE
And “Fooled by Randomness” gave me a lot to think about. Enough that I wrote two pages on my site of monthly articles, so take a look for the full discussion.
I’ll share with you a quiz he relates, from a book titled “Randomness” by Deborah Bennett;
A test of a disease presents a rate of 5% false positives. The disease strikes 1/1000 of the population. People are tested at random, regardless of whether they are suspected of having the disease. A patient’s test is positive. What is the probability of the patient having the disease?
Of course the answer is about 2%, since we know that of 1000 people there will be one with the disease, and nearly 50 false positives. One in fifty is 2%. Here, Taleb missed his chance to offer some further math suggesting how much accuracy such a test would need to offer. In this case even .1% false positive would make for a 50/50 confidence for our random patient. The original author states that one in five doctors got this question correct. An interesting look at something we often taken for granted.
I also read “The Smartest Investment Book You’ll Ever Read”, and found it a bit light. It was a brief book which make the case for index funds, providing quite a bit of data as to why professional managers don’t beat the market. Maybe because I agree 100% with that sentiment, and didn’t really learn anything new, I was a bit disappointed. I’d be more inclined to suggest books from my suggested reading list, starting with “A Random Walk Down wall Street”, by Burton Malkiel.
Back to the beach this weekend. Happy Labor Day!
JOE
And read a few books;
“Fooled by Randomness” : the hidden role of chance in life and in the markets by Nassim Nicholas Taleb.
“The Smartest Investment Book You’ll Ever Read” : the simple, stress-free way to reach your investment. by Daniel R. Solin
“The new life insurance investment advisor” by Ben G. Baldwin.
These are the books I’m reading over the next week or two. Recommended to me by fellow poster on the usenet group misc.investment.financial-plan. Depending how they strike me, I may post a book review on my main site, or add them to my reading list.
Enjoy the weekend,
JOE