Investment returns with a touch of human behaviour
A study from Dalbar shows that the average investor during the last 20 years under-performed the S&P 500 by 4.66% and just in 2014 the average equity investor under-performed the S&P 500 by a wide margin of about 8%.*
- So how did this gap between individual portfolios and the market occur?
- Are all of these individual portfolios not performing or is there something else happening?
There certainly could be many reasons why a portfolio would underperform.
The easy reason could be that the structure of the portfolio and the holdings of the portfolio simply are not keeping up with the returns of the market in general.
An individual might be holding sectors that are not performing or be in asset classes that are underperforming or simply only holding few stocks and these companies may be underperforming.
But the other potentially more important reasons could have to do with investor behavior and structure of an individual’s overall capital setup.
has to do with how an individual reacts to market corrections, economic data and other factors that are out of his or hers control.
It is a natural thing to get nervous if a portfolio starts losing value and it could feel good to get out of the market at this time.
When there is bad economic data or news coming out individual may get nervous and feel that getting out of the market would be beneficial.
has to do with overall structure and setup of an individual’s personal financial plan.
As an example as person who does not have any short term savings but has a lot of money inside of a retirement plan could easily get into a situation where they need capital and due to the lack of savings outside of their retirement plan they have to go and withdraw or borrow from their plan.
By doing that they could be disrupting their potential rate of return inside of their portfolio.
Another reason could be media influence.
The media tends to focus on more of the negative headlines than the positive and thereby individual may react and make decisions based on the negative news reporting.
Another reason could be that humans tend to have a loss aversion mentality meaning that the fear of losing money could lead to individual withdrawing from their portfolios at times when they should keep the money invested.
So what can you do? What can we do?
It starts by understanding why you are investing and what your goals, timeframes and risk tolerance is.
After that being invested and staying the course is critically important. Avoiding listening too much to media hype and avoiding getting emotionally involved is equally important.
Have a plan, update your plan and talk to your adviser on a regular basis to update life events and goals.
Quantitative analysis of investor behavior 2015” Dalbar, Inc www.dalbar.com
2015-14284 Exp 11/17