Emotions on Parade

Barron’s reported recently that Ray DeVoe had died. Ray was a long time market commentator. I first ran into his material at Spencer Trask back in the 1970’s. The DeVoe Report was always thought provoking, often amusing and a must read in a world so full of throw away commentary.

Ray came up with what I still think is the best description of the stock market. The market is “only indirectly related to economics. It is a function of human fear, greed and apprehension, all overlaid on a business cycle.” Two sentences. That’s all you need!

Today fear and apprehension are moving front and center. Stocks have rallied for five years now and the U.S. economy has been getting slowly better. But the public is not a believer (see chart below). Jobs are being created but not fast enough and incomes, except for those at the very top, are stagnant.

Views pg2.jpg

So when the world economy starts to look more dicey, as it does now, investors get a lot more emotional. In emotional markets investors are prone to a number of behavioral missteps. One is how they view gains versus losses. There is pleasure in making a ten percent profit in a stock. But the feeling of pain that comes from losing ten percent is even more intense than the pleasure of making ten percent. Now multiply this by 5 years of making gains (2009-2014) followed by the fear that you might give this back and you see where the nervousness in this market is coming from. Not terribly rational maybe, but very human.

Another behavioral bias is anchoring. We sometimes focus on a price or value at a moment in time to the exclusion of all others. For instance right now we are focused on our portfolio’s high water mark earlier this summer and the fear that we are now moving down below that. Forget the fact that this is just one point in time. We fail to recall how much progress we have made since the market bottom in 2009 and that the investment race is not a sprint but a marathon and that up and down cycles are just part of the race.

We don’t know whether this is the greatest time to sell or just a short term hiccup in the market’s continued rise. But we do know investors don’t spend a lot of time researching their investments (see chart below). They make a lot of snap decisions. The market is always doing its best to force us into wrong decisions at the wrong times. If you need cash for something within the next year then certainly raise it, but don’t abandon  your long term strategy just because the market is getting more emotional.

Neglected pg2.jpg