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January 10, 2008

The Performance Paradox - Fear - (Part 1)

When the markets re-opened on September 17, 2001, the Dow was down, at one point, 850 points and the S&P lost 5% of its value. I remember remarking to my husband (boyfriend at the time) that I felt as if I was moving through Jell-O. Much of what we thought we knew about our world had just gone out the window. No one knew what was coming next. Would there be more attacks? Was this just the beginning? And even if there weren't, how would the economy withstand such an unprecedented disruption?

 

That week, a number of our clients called us. Some just wanted to talk. Others wanted to know what to do. Should they continue with the Snider Investment Method as if nothing has happened? Should they sell their Snider Method positions? Should they liquidate their other stock market holdings?

 

Our response, as it always is, was to stay the course. There was no reason to alter the strategy or do anything different. After all, our investment objectives, tolerance for risk or time horizon did not change when those airplanes slammed into the World Trade Center. I put together a 60 second radio spot that aired on local radio before the markets reopened which told people we would be buyers of stock when the markets reopened.

 

Many people, clients and otherwise, thought we were nuts. Some called to say they were dumping their portfolios. We advised strongly against it, but it was their money. They could do what they wanted.

 

Those who dumped their portfolios did so out of fear and are classic examples of one side of what I have come to call the Performance Paradox. The Performance Paradox is that the more we react to the short term performance of our portfolio, either out of fear or greed, the worse our long-term performance will be.

 

The person who invests from a base of fear, in other words is so afraid of market losses or is so obsessed with short term performance, that he sells every time an investment goes down creates a pattern of turning temporary losses in value into permanent losses of capital. Do this over and over again and you will continually turn winners into losers.

 

What is the answer?

 

To be a successful investor, you must be an optimist. You must recognize and internalize that we live in the greatest, most transparent economy in the world. There will be downturns and tough times - no question. All of us have a tendency, especially as we get older, to think the world is going to hell in a hand basket.

 

And yet, we also know that ten years after any economic disruption - whether it be the Great Depression, the 1987 crash, the currency crisis of the late 1990s, September 11th or whatever - we can look back and we will not wish we had sold. Instead we will wish we had invested everything we had at the time.

 

This is not to say that investing is risk-free and that even the most optimistic among us won't go through periods of doubt. By definition, we will experience severe declines periodically in the future. Investing in the stock market is a winning strategy, most of the time, but not all the time. And those down years can be hard to ignore.

 

If we could accurately predict when those down years would occur, this discussion would be moot. We would simply get in ahead of market upturns and get out ahead of the downturns. But of course, no one can accurately predict when the downturns will come or how long they will last. As Nobel Laureate Paul Samuelson said, "The stock market has forecast nine of the last five recessions."

 

What we can predict is, if you are an optimist who takes a long term view of the market, you will prosper over the years because you will have found a proven strategy for success. The investor who takes the opposite approach - who is bound up in fear and as a result monitors his portfolio constantly and reacts out of fear to short term declines in value, will not be successful over the long run.

 

This is the Performance Paradox. The more you want or need it, the more you try to get it, and the more you micromanage it, the worse it will be.

 

So which are you? Do you take an optimistic long-term view of the market? Or do you try to micromanage the short term performance of your portfolio?

 

Next week, I'll look at the flip side of the Performance Paradox - greed. Then we'll talk about the antidote. Stay tuned.

 

Kim Snider, Kim Snider Financial Communications, Chronim Investments and/or Snider Advisors make no representation that the information and opinions expressed are accurate, complete or current. The opinions expressed should not be construed as financial, legal, tax, or other advice and are provided for informational purposes only. Call 866-952-0100 to request the Snider Investment Method™ Owner's Manual, which includes a description of the Snider Investment Method, investment objectives, risks, suitability and other information. Please read and consider carefully before investing. All investments are subject to risk including possible loss of principal.

Posted by Kim Snider on January 10, 2008 | Permalink