Hi Guys,
Some things get better with age; apparently that rule doesn’t apply to the average investors. We continually and consistently underperform market equity returns by a substantial margin.
In its annual QAIB (Quantitative Analysis of Investor Behavior) report, DALBAR reaffirms its long standing finding that the average private equity investor only captures a small fraction of market rewards because of poorly timed entry and ext points. The recorded gap is really staggering and compromises end retirement wealth.
The annual 2012 investor returns keep this terrible record intact. To paraphrase President Ronald Reagan “there we go again”.
The 2013 DALBAR report is being publicly released momentarily. Here is a Link to a brief summary from the NY Times:
http://www.nytimes.com/interactive/2013/03/10/business/Buying-High-and-Selling-Low.html?_r=0The graphic depicted is the 20-year rolling average comparison between the individual investor and the S&P 500 index benchmark returns. It tells a sad story.
Year after year, the average investor suffers the agony of defeat. The evidence is overwhelming. Fortunately, MFO participants are likely all residents of Lake Wobegon so the DALBAR data set does not represent us. Sure.
Note also how the S&P 500 rolling average has been decaying over the last decade. Past returns are not indicative of future rewards. Near term equity returns are likely to be very muted because of demographics and the political climate worldwide.
There are a few easy lessons embedded in these data.
Best Regards.
Comments
We need financial education in this country. Forget home ec - home ec becomes financial ec - investing, balancing a checkbook and all manner of other common tasks. There are plenty of "simulation" investment programs today where the students could invest throughout the semester (maybe they have to write a paper about a mistake they made, who knows - there could be a lot that comes from it.)
The second aspect is human nature. People who are panicky are going to be more panicky when things aren't good and they aren't comfortable with the risk they've taken on (or they're comfortable when things are good, they're not comfortable when things suddenly aren't.) When the world is uncertain (yes, I know, there's uncertainty throughout history, yadda yadda, although 2008 is still fresh in people's minds and I think there are still a wealth of people in this country who are just muddling along. Maybe so many people had more risk pre-2008 than they could handle and now you're going to get a swing back too far in the other direction.
That's really it (I think) - you can have all the reports in the world, but I think until you have a better foundation early in life things are not going to change.
Hi Scott,
Thank you for your timely reply to my post. It contributed needed extra dimensions to the discussion.
Your observation that early education in financial matters is urgently needed is spot on target. And it is something that can be accomplished with just a little planning and a minuscule budget impact.
I completely agree with your conclusion that young folks are ill prepared for financial decision making. Simply put, given limited exposure, they don’t understand the financial payoffs with respect to investment tradeoff matrices, financial history, the driving elements of our capitalistic economic system, and crowd psychology. An introduction to these crucial elements is easily within the grasp of High School students.
Anecdotally, I can verify that it is not just teenagers who are unaware of financial realities. A few ago, I participated in a handful of lectures that addressed this topic. We conduced a class with High School Juniors, with a Sea Scout group, with a Boy Scout troop, and with a few Senior citizen assemblies. Yes there were several well informed people in each group, but the majority, especially unexpected among the senior cohort, were ill equipped to participate in the investment universe. This was true even for some seniors who had fortunately lucked into some successful (and highly risky) investment adventures.
To more fully flesh-out your educational recommendation, I would suggest that competitive sub-groups within the class be organized and that carefully constructed incentives be provided. Americans love competition. If the boys organize against the girls, my bet is on the females.
Financial firms would be eager to provide funding for incentives, not necessarily money awards. Pizza parties are great fun and inexpensive. Market performance should be a part of the scoring, but not the principle component. Short term outcomes can too easily distort the winning portfolio due to lucky picking from a small concentrated portfolio of highly volatile individual stock holdings. That teaches the wrong lesson. The scoring must be dominated by other more significant longer term market understanding elements (diversification) and considerations (risk control). So designing a proper incentive format is a little more challenging a task, but it is doable.
The class needs a textbook. Many good options exist. I propose that William Bernstein’s “The Four Pillars of Investing” be on the short list of finalists.
Your second observation concerning investment crowd psychology also has considerable merit. That’s a more difficult challenge since it requires courage to jump ahead of a stampeding herd. Changing a belief system often takes decades, and more often fails. Perhaps exposing young folks to a few popular books about crowd behavior from authors like Malcolm Gladwell’s “Tipping Point” and James Surowiecki’s “ The Wisdom of the Crowds” would sharpen their insights.
My own favorite in this arena is Daniel Kahneman’s classic “ Thinking, Fast and Slow”.
Whatever approach is selected, the psychology aspects of investing is a much tougher nut to crack, or more appropriately, to control. It is a much riskier venture with a much longer term prospect for successful impact, and a much greater likelihood of failure. Nevertheless, we should try.
Thanks again for your thought provoking reply.
Best Wishes.
Nest time you're in a situation like that pick some noticeable vehicles in the lanes around you and use them as markers. You pass them... for a little while, then they pass you. Typically, when the jamup clears, you will find that those "markers" have gotten through at about the same rate as your lane, and the lane-jumpers are lost somewhere back in the crowd.
Very seldom does repeated lane-changing prove rewarding. I'll bet MJG has a math-based explanation for this effect, but I've often contemplated the empirical similarity to investment discipline.
I remain confident that my study of human nature for 65 years among men, women and children both locally, in several U.S. states and international travel and living still provides that numerous functions of humans may indeed be placed in statistics that are functions of math; but the cause(s) are most likely based in the cranial/rectal inversion syndrome, which has a base percentage factor of human kind since the beginning of notations scratched upon cave walls. Basically, there are a given number of those who are not and will not be clear thinkers under most conditions and circumstances and get through their days of work and pleasure from the basic function of pure habits; whether good or bad, nothing more, nothing less. Those who see the wind blow the leaves on the tree in a given direction; but give no more consideration as to how and why.
Hey, another cup of coffee here and I am almost good to go for the day.
Take care, in your part of the world.
Catch
Sorry to have not answered your last email... time just keeps getting used up real fast, as I'm sure that you've noticed. Good luck on your end.
OJ
Indeed lane and line changing has come under the scientific and engineering microscope. That really shouldn’t shock anyone since there are efficiencies to be gained from the insights gleaned from such studies. Experts in the field do exist using empirical observations and computer simulations as common tools. I am not one of those experts.
Here are some recent study outputs that might interest you. This first one deals with changing lines in a store:
http://www.nytimes.com/2012/08/19/opinion/sunday/why-waiting-in-line-is-torture.html?pagewanted=all&_r=0
This second Link highlights results from a changing auto lanes study:
http://discovermagazine.com/2005/apr/math-of-changing-lanes#.UVHbHkbOQQE
Here is a more scientific reference to a literature survey conducted by the University of Michigan:
http://deepblue.lib.umich.edu/bitstream/handle/2027.42/894/80190.0001.001.pdf?sequence=2
Human engineering work is all over the map. Overall, it does improve our standard of living and guides our decision making. Embrace it.
I specifically selected popular reports that downplayed the engineering modeling that helped uncover their findings. More formal documentation is easily accessible on the Internet.
I typically do not play in this game. I make my lane/line selection and stay the course. I’m sure that does not surprise anyone familiar with my participation on the MFO board.
Yes indeed, line and lane decision making is a lot like investing. Those who change frequently are short term profit seekers (speculators); those who are patient and persistent are long term investors. Everyone should pick a strategy to satisfy their personality and objectives.
Like it or not, statistics will forever be a part of that decision process. The miles per gallon that your car delivers is a meaningful statistic, especially when contrasted against an average value recorded for your auto. You can use that statistic to adjust your driving habits if that measure is a disappointment. It’s just like investing benchmarks.
Whatever you select is just right for you and I would not ever attempt to make that choice for you. However, I do try to inform you of the odds and the expected payoffs; in that sense I do attempt to influence your decision making. But the final decision is always your responsibility.
Best Wishes.
I've found the best strategy for maximizing profits is somewhere in-between, sort of a hybrid trader/investor. There are times to be in trading mode and times to be in investing mode. In effect that is nothing more than cutting your losses and letting your profits run. I must be on to something since on the traders' board they think I am nuts for not grabbing profits ASAP ( an ineffective way to accumulate wealth) and on the investing boards I am nuts for not being patient and persistent by sitting on my losses (also an ineffective way to accumulate wealth) It pays to run counter to the group-think of the herd.