Stay the course on your long term investments

It’s human nature to want to do something to solve what we perceive to be a problem or fix something we feel isn’t the way we want it to be. When it comes to investing, during times of investment market uncertainty, of which we’ve had an inordinate amount to deal with over the last 3 years, one must resist human nature and stay the course.

Trying to time the market by moving between asset classes or seeking out what we believe to be safer/lower risk options during bouts of volatility (because of our innate need to “do something”) invariably causes more harm than good. Remembering the principles of “it’s time in the market not timing the market” or “don’t make short term decisions on your long term investment” don’t allay our fears in the face of potential losses. However, as cliché as these may seem, when we view major events through a medium or long term lens rather than through a magnifying glass, we realise that today’s crisis will be a blip on the long term return graphs of tomorrow because this is how markets operate. This is true for local and offshore investments.

In a webinar by Morningstar Investment Management that I watched recently, the presenter focused on this particular phenomenon. Whist the principles are well known, it is critical to remind ourselves when we are confronted by the crisis of the day, that there is always a crisis of one kind or another and that volatility is nothing new.

The first of the two slides I’ve attached is particularly effective at highlighting the negative consequences of our built-in “short term-ism”. The 3 scenarios don’t really need much explanation other than to say that the two lowest return outcomes are a result of responding to events that were significant at that time whereas the highest return outcome is the result of staying the course.

Delving a little deeper into WHY(?) staying invested results in so much out performance compared to two “do something” scenarios yields some interesting insights and can be summarised as follows:

1) Fear means we invariably dis-invest when markets slump and greed means we invariably invest when returns are flying. When fear outweighs greed we see disinvestment and when the fear dissipates and is replaced with greed we see sell-low, buy-high outcomes that is disastrous for investment returns.

2) Compound returns (some believe Albert Einstein once said that compound interest is the eighth wonder of the world) requires time to be most effective. Short-term-ism destroys the opportunity for compounding returns.

3) A huge percentage of returns come from just a few of the best days of market out-performance each year. So if you dis-invest after bouts of volatility, you’ve probably sold low and then because timing the market is near on impossible, you are dis-invested during those few days of out-performance and reinvest after the markets have buoyed, losing out on returns, big time.

To illustrate the third point , the second slide highlights how being dis-invested for just a few of the best return days over 25 years has a massive negative effect on returns. Put another way, 25 years is 9125 days. Missing just the 20 best trading days (by being dis-invested) resulted in returns of just 25% of the return earned by staying invested. This is because there is simply no way of identifying or predicting which those best trading days will be.

So rather than letting fear drive knee-jerk reactions and then trying to time the market, we urge investors to consult your Financial Advisor to ensure your investments match your time-horizon, your required return and your risk tolerance and are then to stay the course.