Are You Pulling a Prank on Your Investments?
As teenagers, looking for laughs, my brother and I would sometimes tape a fishing line to a dollar bill, lay it where people would see it and hide, with fishing line in hand. As soon as the unsuspecting person would reach down for the dollar bill, we would quickly pull the line and move the dollar bill a few feet. If we were lucky, the person would think it was only the wind that moved the bill and they would step and reach for it again only to be met by it moving just out of their reach.
This common prank is not too far from what many investors do as they continuously chase past performance only to find their investment go in the opposite direction than they had anticipated. This is especially true when the market is heating up or cooling down. How often have you jumped into a "hot" investment because a friend had claimed to make a killing in it only to find it cool down right after you get in?
Many investors try to implement a long-term strategy by reacting to short-term trends. This is frequently an exercise in futility. In their efforts to keep up, they find themselves making the age old mistake of buying an investment at its peak price then subsequently selling it at its low.
In order to avoid some of the common mistakes investors make, there are a few things you need to keep in mind:
"Past performance does not guarantee future results". It's a phrase you see on numerous investing marketing pieces and statements. Take it seriously. On many occasions, I have seen someone look at a performance chart from a particular stock or mutual fund over a period of time and try to make the argument that because it reached a certain price in the past then it is just a matter of time until it reaches that price again in the future. It may sound logical, but this approach is filled with potential pitfalls.
For example, in 2007, Emerging Markets Equity was one of the highest performing among asset classes. The following year, however, Emerging Markets Equity was one of the worst performing among asset classes. Had you bought into Emerging Market Equity because of the historical return you might have found yourself crying in your pillow because of the subsequent losses.
Periodically rebalance your portfolio.
I have an automatic sprinkler system at my home. I have never found it easy to program and I seem to struggle each time the season changes and I need to adjust it to fit the season and watering needs of my lawn. Usually, it is only after my lawn is severely under watered or overwatered that I stop to take the time to adjust the setting to where it should be. If I didn't do this periodically, my lawn would suffer the consequences. If I adjusted this when I should, my lawn would grow and be much healthier than it is now.
A portfolio is not much different in that it is important to periodically adjust or rebalance it to ensure your investments are weighted appropriately based on your asset allocation strategy. There are three main asset classes - equities, fixed income, and cash and equivalents. Each of these asset classes has their own level of risk and return. A portfolio may include a portion of each of these asset classes based on your strategy.
Over time, the percentage of market value in each of these asset classes in your portfolio will increase or decrease, based on performance and you may find your portfolio over or underweighted in one or more of these areas. It's at this time you want to rebalance your portfolio to ensure your portfolio is not taking on more risk than you originally anticipated.
Focus on the things you can control.
Hosting a financial radio show, we get calls on a daily basis from people concerned about the current administration or panicked about Wall Street. This makes great conversation but when it comes right down to it, we can only impact those things in our control.
Often people worry and fret about tax law changes that may or may not be coming, while they completely ignore the current tax laws that they could use to their benefit such as contributing to a tax-qualified account. They complain and argue about how the recent market turmoil has impacted the economy, yet they forget that they haven't contributed to their retirement for several years.
So while it may be fun to debate the hottest stock or the economic impact of the current administration, don't forget that the decisions you make while managing your own financial house will have the greatest impact on your financial well-being. Don't spend your time chasing the dollar that continues to be just out of reach.
This common prank is not too far from what many investors do as they continuously chase past performance only to find their investment go in the opposite direction than they had anticipated. This is especially true when the market is heating up or cooling down. How often have you jumped into a "hot" investment because a friend had claimed to make a killing in it only to find it cool down right after you get in?
Many investors try to implement a long-term strategy by reacting to short-term trends. This is frequently an exercise in futility. In their efforts to keep up, they find themselves making the age old mistake of buying an investment at its peak price then subsequently selling it at its low.
In order to avoid some of the common mistakes investors make, there are a few things you need to keep in mind:
"Past performance does not guarantee future results". It's a phrase you see on numerous investing marketing pieces and statements. Take it seriously. On many occasions, I have seen someone look at a performance chart from a particular stock or mutual fund over a period of time and try to make the argument that because it reached a certain price in the past then it is just a matter of time until it reaches that price again in the future. It may sound logical, but this approach is filled with potential pitfalls.
For example, in 2007, Emerging Markets Equity was one of the highest performing among asset classes. The following year, however, Emerging Markets Equity was one of the worst performing among asset classes. Had you bought into Emerging Market Equity because of the historical return you might have found yourself crying in your pillow because of the subsequent losses.
Periodically rebalance your portfolio.
I have an automatic sprinkler system at my home. I have never found it easy to program and I seem to struggle each time the season changes and I need to adjust it to fit the season and watering needs of my lawn. Usually, it is only after my lawn is severely under watered or overwatered that I stop to take the time to adjust the setting to where it should be. If I didn't do this periodically, my lawn would suffer the consequences. If I adjusted this when I should, my lawn would grow and be much healthier than it is now.
A portfolio is not much different in that it is important to periodically adjust or rebalance it to ensure your investments are weighted appropriately based on your asset allocation strategy. There are three main asset classes - equities, fixed income, and cash and equivalents. Each of these asset classes has their own level of risk and return. A portfolio may include a portion of each of these asset classes based on your strategy.
Over time, the percentage of market value in each of these asset classes in your portfolio will increase or decrease, based on performance and you may find your portfolio over or underweighted in one or more of these areas. It's at this time you want to rebalance your portfolio to ensure your portfolio is not taking on more risk than you originally anticipated.
Focus on the things you can control.
Hosting a financial radio show, we get calls on a daily basis from people concerned about the current administration or panicked about Wall Street. This makes great conversation but when it comes right down to it, we can only impact those things in our control.
Often people worry and fret about tax law changes that may or may not be coming, while they completely ignore the current tax laws that they could use to their benefit such as contributing to a tax-qualified account. They complain and argue about how the recent market turmoil has impacted the economy, yet they forget that they haven't contributed to their retirement for several years.
So while it may be fun to debate the hottest stock or the economic impact of the current administration, don't forget that the decisions you make while managing your own financial house will have the greatest impact on your financial well-being. Don't spend your time chasing the dollar that continues to be just out of reach.
