Over these past two and a half years, we have gotten a good taste of the psychological difficulties of investing. Market uptrends have consistently followed periods of downtrends, again and again. For example, in the four-month period between May 21, 2001 and September 21, 2001, the S&P 500, the leading index of large stocks, lost over 26% in value. But in the next six months, the S&P jumped over 19%. The short duration and wide extremes of these movements demonstrate the futility of trying to guess what is going to happen over the short term.
Some years ago, I heard John Bogle, founder and leader of the Vanguard Group of mutual funds for some 25 years, speak to a group of investors. He said, “The problem is not the financial markets, it’s the behavior of individual investors.” He went on to say that the performance of most Vanguard funds was fine, but that the firm’s research showed that the performance of the participants in the various Vanguard funds was pretty bad. He then demonstrated to us, an audience of rather savvy investors and professionals at an annual conference, how investors consistently poured money into the funds when markets were near the top, and just as consistently sold, or “cashed out of,” funds when market prices were near the bottom. The data was clear and convincing: individual investors’ reactions to the ups and downs of the market contributed to their own poor performance.
Why is it so hard for most investors to avoid this behavior? Perhaps it is because we are less comfortable in the role of business owner than in that of employee. Consider this concept:
Most of us enjoy fairly secure jobs, receiving a predictable income stream from our employers. Our employers, however, are not so lucky. Many of them are subject to influences most of us are only minimally aware of – unpredictable revenue streams, large unanticipated expenses, a competitive environment that changes constantly, product obsolescence, changing demand patterns, and many more variables. We hardly ever stop to think about how well our employers are “shielding” us from the effects of our free market economy’s ups and downs. Not, that is, until we become owners of stocks.
What we begin to experience once we own stocks is what our employers live with every day – the full impact of economic trends coupled with the fears and greed of other investors. As owners of equity securities, we are stepping out from behind the shield someone else (namely, our employer) provides for us and participating directly in our free marketplace, coming face to face with its inherent risks. We feel the anxiety that accompanies this participation whenever we see stock prices rise or fall. And sometimes it is pretty unpleasant.
But…enough of the difficult side of being a business owner…Let’s get back to the more lucrative side of stock ownership!! We at BWFA have confidence that the uptrend which began in mid-September 2001 is continuing. The economic numbers are increasingly positive and point to a solid rebound. The market, however, has decided to follow the beat of a different drum for the moment. We do not expect this to continue for long; rather we anticipate positive returns in 2002.