Fear, emotions: an investor’s worst enemies
July 3, 2013
Days like June 19 through 24 remind us all that markets do not always go up and that successful investors have a plan. They base their decisions on their plan and not the daily movement of the financial markets.
However, many investors make too many decisions based on their emotions and miss out on the opportunities that volatile financial markets can produce.
During rallies like the one we have been experiencing since last summer, many people who were on the sidelines because of fear finally gave in and decided to enter the equity markets again.
This, along with other factors, such as a slowly improving economy, increased consumer confidence and the realization that some stocks had a higher yield than bonds and definitely more yield than money markets.
However, fears of what may happen when the Fed starts to let up on the stimulus or, worse yet, start monetary tightening have the markets reeling.
Most pundits and yours truly believe that the markets are overreacting and things will level off or possibly bounce back once everyone has had time to digest all that is going on.
This is a great opportunity to discuss what investors should do when market volatility picks up.
To illustrate how to behave, we will take the case of John and Rebecca Jones.
John and Rebecca had been taught by their parents to always plan ahead and to make decisions based on reason and not on emotion, especially not on fear.
They followed their parents' advice and planned the best they could for the important things in life. They planned out their wedding, when to have children, where to live and how and when to save for their children's college and retirement.
When planning for these events, they considered the following: when the event was going to happen, how much money it was going to cost and how much risk they were willing to take to achieve their goals.
They realized that when it came to retirement and college for their children, they had many years to put money away and could take on more risk to achieve their goals.
They decided to invest monthly in a diversified global mutual fund portfolio that was heavily weighted in stocks, because research showed them that the long-term returns were the highest.
When the global markets ran into trouble in 2001 and 2008, they saw their portfolios fall by more than 30 percent; emotions told them to sell and stop the bleeding, but reason told them to review their plan, make fine tuning adjustments and consider buys to adapt to new market conditions.
Their plan told them to reduce the risk of their kids' college portfolios as they got closer to graduation.
They listened to their financial advisor when he recommended that they reduce equity holdings and increase their cash and bond holdings in order to preserve the capital they had built up over the last 17 years.
As they approached retirement, they reviewed their portfolios with their financial advisor and made tactical changes when warranted, always focused on their goal.
They took gains when the markets went up and added money when markets were down.
Reason reminded them to buy low and sell high, when emotions told them to do the opposite.
So, with this in mind, are you listening to your emotions or following your plan?
Frederick Fisher is a CFP® and insurance agent. Securities and advisory services offered through National Planning Corporation (NPC), Member FINRA/SIPC, a registered investment adviser. Ostrofe Financial and NPC are separate and unrelated companies. For questions or suggestions, contact Rick Fisher at 530-273-4425, or firstname.lastname@example.org.