When it comes to investing it’s important to remember one simple fact: it’s impossible to control financial markets. Ultimately stock markets are driven by the news and if one thing is for certain it’s the uncertainty of what might be reported tomorrow or in a few weeks or months.
Situations, like we find ourselves in currently, can leave investors feeling very anxious and unsure about what to do. Yet it’s important to remember that when it comes to investing there is a great deal which can be controlled – from the amount you choose to save and spend to your attitude to risk, as well as your own approach and reaction to the market’s inevitable ups and downs.
In fact, for most investors the media reports about the Coronavirus and the market’s reaction to it, offer a perfect example of how emotional sentiment can play its part in the investment process. Given the lengthy bull market we have experienced, it’s safe to say that it would be more shocking if you weren’t just a little unnerved by recent events.
At a time like this, when many are concerned about what’s still to come, it’s useful to remind ourselves of some recent events which demonstrate just how the markets can challenge us:
Recency bia – last year S&P 500 stocks were up 28.9% but this year they are down 7.8%. Yet investors are more concerned about the very recent, modest losses than celebrating significant gains which came before.
Extrapolation – market performance over the last week shows some heavy losses. It’s easy to take these and use them to forecast into the future – but this is a classic misnomer. It’s vital to remember no one can predict returns simply by looking at past performance.
Loss aversion – the uncertainty of the last week and of what might yet come means concern is normal. Quite simply no investor wants to lose money.
Anchoring – last week’s market falls have driven the S&P 500 back to October 2019 levels. If the gains seen over the past few months hadn’t materialised, and markets had stayed broadly flat, then investor confidence wouldn’t be knocked. Sometimes a little perspective can be useful.
Hindsight bias – a bear market has long been predicted but not materialised. What is facing markets now may cause those expecting or ready for declines to feel more confident and take bigger bets.
Unstable risk tolerance – a certain amount of ‘fight or flight’ mentality may mean that some investors increase their exposure or sell out. Ultimately these decisions are driven by how the downturn has impacted attitude and tolerance for risk. The most sensible approach to investing is to assess our attitude to risk and use this to create a portfolio. However human nature means that risk fluctuates along with the financial markets, with many feeling the need to ‘pull back’ in times of trouble.
Illusion of control – in what can be perceived as a dangerous situation, human instinct is to react to take back control. This may be contrary to financial goals which are focused on longer-term outcomes such as funding retirement.
So, in this situation, it is important to maintain a long-term attitude to your investments. Global events will occur and unsettled periods in the markets will come and go. Through it all, the best approach is to maintain your focus on your long-term goals and guard against knee-jerk reactions.
To discuss any aspect of your own investment planning please contact your nearest office.
Julian Broom, Chief Investment Officer