As we enter the 8th year of the bull market, confidence in Wall Street is at an all time high. Market downturn is a distant memory. In academic circles, this optimism is called recency bias. Just as we expect Steph Curry to nail his next three pointer because he drained his last 25 without missing, the assumption that good times in markets will continue because it has for the past 8 years, captures the essence of recency bias.
The problem, of course, is that Steph Curry does miss and markets do correct. And that makes recency bias particularly dangerous for investors. The flip side is true as well. When the markets are in a correction, we become convinced that the market isn’t going back up until realization hits one day, and we’re left sitting on an all cash position that’s earning nothing. And then, we plow our cash hoard into the stock market that could be at the tail end of a bull run. The results are often painful.
The average investor is not alone in this belief. Many Wall Street analysts ignored the early cracks in the economy at the start of 2008 because of 5 straight years of positive returns and called for another double digit return in 2008. Of course, we all know how that movie ended – S&P 500 fell 38.5% that year. Looking into what’s ahead for the market this year, very few are predicting a correction or a bear market. But then again, few ever do.
Future Wealth’s View
Deep rooted habits and fears are hard to overcome. But, especially important, is taking a long term view and keeping an even temperament about one’s investments. Just as it would be unwise to quit exercise at the first signs of an injury, it is unwise to completely stay away from investing in the stock market after the 2008 downturn. Likewise, constantly shuffling one’s portfolio in an attempt to time the market and avoid the next correction is not recommended either.
At Future Wealth, we invest in balanced portfolios for our clients based on economic fundamentals and key trends that are likely to emerge while providing downside protection. For all our clients, we take out behavioral bias and fixed portfolio allocations. We do not recommend an investment portfolio, for example, that randomly allocates 60% of its assets to stocks and 40% of its asset to bonds to certain investors, because this mix has worked well in the past. Neither do we take risky positions, in order to beat the S&P 500 benchmark this year, because we believe it is unrealistic to expect that the S&P will continue to provide double digit returns in future years. Instead, we develop customized long term investment plans and periodically reassess long term performance of various asset classes for our clients. Steph Curry’s three point shooting consistency may fall off but basketball should still be fun to watch.