What Can We Conclude From This?

Friday, September 8th, 2017

An article in this past weekend’s Wall Street Journal was titled, “Investors Have Stopped Pulling Money From Stock Market…Longest Streak of Equity Withdrawals in 13 Years Has Come to an End.”

This sounds like a pretty big deal, doesn’t it?

The article goes on to say that Americans withdrew $30 billion from equity mutual and exchange traded funds over a 10-week span this summer, the longest streak of withdrawals in 13 years!

An article three days earlier covering the same topic includes a quote from a managing partner at some financial advisory firm, “If historical precedent applies, the S&P is set for about a 4-5% decline in the next month towards 2,300 or so.”

It later goes on to say, “it’s no surprise that investors have been hotter on international stocks, which have been boosted by an updraft in global growth. In the latest week, they put $3.1 billion into Japanese equity funds, the biggest inflow in five months according to Bank of America. European equity funds had six straight weeks of inflows through mid-August, though they experienced $200 million in outflows in the most recent week.”

Finally, it ends with, “Still, it’s worth remembering that investors, stung by losses during the financial crisis, have been hesitant to put money into U.S. stocks for much of the bull market that began in early 2009. That hasn’t stopped the market from plowing higher anyway.”

Let’s Recap

In order to determine what we can conclude from all of this, let’s recap a few key points:

  1. Investors withdrew $30 billion from equity funds over a 10-week span this summer, the longest streak in 13 years
  2. This stopped this past week as investors poured $300 million net into U.S. equity funds
  3. A “noted” advisor makes a prediction, based on historical precedent, that the S&P 500 Index will decline 4-5% in the next month
  4. As opposed to U.S. funds, European equity funds had six straight weeks of inflows. However, unlike U.S. funds which saw withdrawals end and experienced net inflows this week, European stock funds saw withdrawals this past week
  5. Finally, the most important point, a reminder that, while markets have plowed ahead anyway, investors have been hesitant to put money into U.S. stocks for much of the bull market which began in early 2009 because of the sting of losses during the financial crisis.

If there is a clear example explaining why investing results for the average American are so horrid, this is it in a very simple nutshell. How sad!

Why?

All of the activity, and certainly the prediction made by the advisor, are based on the assumption that short term movements in markets can be predicted. Translation: I see a trend and I’m going to navigate and reallocate my lifelong savings to take advantage of it.

Do you think there is any correlation between U.S. equity market prices pausing for a few weeks and investors deciding to “get out” before they get caught in a downturn?

Or, European equity funds seeing huge net inflows right after European equity market prices had just gone up 20% in the first six months of 2017?

What’s the Bias Here?

All investors bring their own set of biases to the table when they invest, and it’s something we all need to keep in check if we want to be successful.

One of those biases, which is illustrated in this article, is recency bias: i.e., mistaking recent events for ongoing trends.

Warren Buffet said, “investors project out into the future what they have most recently been seeing.”

Harry Markowitz said, “people assume that shooting stars will continue to burn brightly.”

They’re so right!

As we have all learned the hard way, there is no correlation whatsoever between recent price movement of a certain asset class of stocks and their price movement over the next year. Yet, how many of us look at a fund which has recently performed poorly relative to other asset classes and project out into the future that this “trend” will continue?

Or, on the flip side, that a fund or asset class which just shot the lights out last year will continue to do so?

If we want to reap all the rewards that come from capturing market returns, we have to resist all temptation to follow the crowd and engage in this line of thinking.