In a recent interview Jason Zweig, a personal finance columnist for the WSJ, had a quote that resonated with me.   

  "Emotional discipline is the single hardest thing about the investment game."   

After accumulating over 30 years of writing and thinking about investing and personal finance, Jason points to emotion (not market valuations, stock picking, or market corrections) as the most difficult part of investing.  As financial advisors, we witness the struggle of emotional discipline firsthand. Recent news (and noise) around tech stocks, housing prices, federal spending, cryptocurrencies, inflation, and interest rates have made it more difficult for investors to maintain this discipline.  

are you an investor facing FOMO or FOBI?  

This lack of emotional discipline manifests itself typically in one of two ways:   

1. Fear of Missing Out (FOMO) in the market. If you are 15 years old, FOMO is seeing your friends doing something without you on social media. If you are an investor, FOMO is the internal dialogue of “I see my neighbor making money on ____, I need to buy ___.” Someone who has FOMO tends to follow the crowds. FOMO can lead an investor to think their rate of return is a benchmark for their success rather than achieving a return needed for a successful financial plan.

2. Fear of Being In (FOBI) the market. FOBI is the internal dialogue of “I have seen how this story ends. I need to sell ____.” Someone who has FOBI likely listens to news sources who make a profit off pessimistic news. Note: It is easy to push the sell button, it is always harder to get back in.  

FOMO and FOBI may seem different, however, both are ultimately trying to guess where the market will go next and are speculative in nature. Let 2020 be a great reminder that it’s difficult to predict how the market or a particular investment will do year to year.  

Periodic Table of Investment Returns from the last 20 years

One of my favorite charts to illustrate the difficulty to predict short-term performance is "The Periodic Table of Investment Returns". This graph ranks the annual returns of popular asset classes from best to worst over the last 20 years.   

Source: Blackrock; Past performance is no guarantee of future results. The information provided is for illustrative purposes and is not meant to represent the performance of any particular investment. Assumes reinvestment of all distributions. It is not possible to directly invest in an index. Diversification does not guarantee a profit or protect against loss.

An investor experiencing FOMO is likely paying attention to the top row, the best-returning asset classes over the last 20 years. This investor is likely trying to guess what will be the highest performing asset class in the coming year.  

Meanwhile, an investor experiencing FOBI is likely paying closer attention to the bottom rows, with a specific focus on larger market selloffs like 2001, 2002, and 2008. A FOBI investor is worried about being invested in the wrong asset class and will try to avoid the worst-performing asset class in the coming year.  

The Periodic Table of Investment Returns reminds me of three investing truths:   

1. It can be dangerous to try and guess what is next. Consider US small-cap stocks (Sm Cap – in light green), which had the highest average annual return over the 20 years. While small-cap stocks were the best performer they also showed the widest variance in outcomes. Guessing right in 2003 would have provided a positive return of 47.3%. Guessing wrong in 2008 would have provided a negative return of 33.8%. 

2. Past performance is not an indicator of future returns. Making investment decisions based on recent performance (e.g., looking at 1, 3, and 5-year returns) can be detrimental to an investment portfolio.  International’s performance as a prime example (Int’l – in yellow), over the five years from 2003-2007 international was the best performing asset class by a long shot. International seemed like the sure thing. Unfortunately, the investors who followed international’s high returns were greeted with a brutal 43% selloff in 2008.   

3. Portfolio diversification is the answer to combating FOMO and FOBI – See “Div portfolio” in purple along the middle rows.  Diversification is an investment strategy that aims to maximize a level of return for the risk desired. Diversification accomplishes this by strategically spreading money across different types of investments.   

 A diversified portfolio helps investors maintain emotional discipline. Diversification can avoid the fear of missing out on the next hot investment. Owning more of the market will naturally provide more opportunities to not miss out on the growth of specific sectors or individual investments. Diversification can also temper being fearful of being in the market and owning the next big loser. Diversification disperses your dollars across many asset classes, which means if one company is a dud it will not sink the ship.  

If you struggle with emotional discipline when investing, congratulations you are a human. If helpful, please use The Periodic Table of Investment Returns as a great reminder that emotional discipline is difficult. Putting a plan in place along with proper diversification can help investors make smart long-term decisions.

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The term speculation[1] has been on the steady decline since 1840. The decline in use is somewhat surprising given the current market environment where speculation runs rampant. In recent weeks, our team inked a well-thought-out article about the speculation du jour titled, The Big Short: Volume II Starring $GME . Interestingly, they could have been writing about any of the past's speculations—like the Dutch Tulipmania in the 1630s and the roaring 20s that ran up to the 1929 crash. More recently, tech stock speculation reached a fevered pitch in the 2000s and was followed by an equally thrilling run-up in housing which peaked in Q1 2007.

“Speculation is easy to spot, but it is difficult to understand what brings speculative environments to an end.”

Memory Lane (1995-2000)

Speculation in technology stocks lasted for six years. Money managers and even the Federal Reserve Board Chairman Alan Greenspan noted the overall frothiness of the markets. In his 1996 public address, Chairman Greenspan pondered, "but how do we know when irrational exuberance has unduly escalated asset values…?" From 1995 to 2000, the Nasdaq grew sixfold (see Figure 1 below). Over several years, beginning in March of 2000, the tech-heavy Nasdaq stock index lost nearly 80% of its value. Even the "blue chip" tech stocks of the day: Cisco, Intel, and Oracle, fell fast. But because they had well established and viable business', they crawled from the rubble and thrived. But the road to recovery took 15 years as the Nasdaq crossed through its previous market peak set in March of 2000 in April of 2015.

Figure 1

Reason for the speculation?

As was the case leading up to the peak of the .com era, much of today's speculation has been brought about by venture capital (VC) investment. Key statistics surrounding VC investment are at or near all-time highs. This includes deal activity, VC-backed IPO's, and VC-backed M & A. You can learn more about VCs and speculation here. The influence of M & A on the market dynamics is meaningful—particularly for retail investors who see what VCs are doing and want a piece of the action. In the book, The Psychology of Money, the author notes that "people have a tendency to be influenced by the actions of other people who are playing a different financial game than they are." VC investors are some of the most sophisticated investors in the world.  Simply put, VC investors are playing a different financial game than most people who want to get a piece of their action.

One reason for concern is that a mass of money is being put into the capital markets, including VCs, with a speculative bent. This changes the market's disposition. The stock market can quickly turn from a place to save for retirement and invest for college to a casino or dog track, where a quick buck can be made. The bottom line is that investing and speculating are not the same thing. In the last 25 years, the most successful investors I have observed have relied on simple truths to accumulate their wealth. They make their money by saving and investing over a lifetime. To be sure, some speculators hit it big, and those will be the stories you hear about. Others, as is the case with most speculative investments, will lose everything.

Access, Gamification, and Human Nature

This go-around, the rise of speculative investing seems to have a social appeal. With stock trading commissions at zero and gamified investment platforms, both access and the fun factor are present at levels I've never seen before. On the one hand, I'm thrilled that more people are interested in the capital markets. But I wonder if tools and access make investing more like a casino or betting app than serious investors' tools to achieve lifelong financial goals. If investing is being marketed to fulfill all your dreams in a couple of keystrokes, why wait a lifetime?

It is human nature to want a piece of what is working—after all, who wouldn't?  We all know someone who made their money quickly. For every person who made an easy buck and won the lottery, millions of us are going to need to do it the hard way. Yes, the wet blanket approach to investing—like spending less than what you earn and putting a little away each month to an emergency fund. Forgoing a slice of your paycheck today so that you have something to live off when you are no longer generating an income from your labor. Driving the same old car so the payments you would otherwise have with a new car can go to your child's college savings account. I know what some of you may be saying, "he just doesn't get it." Maybe not, but what is true is that if investors do not choose a path, it will be selected for them. Or if not, they may bounce around from one path to another, making for a very emotional and disjointed investing experience. One path has a high probability of success because it relies on disciplined saving and investing behavior over a lifetime. The other approach is speculative, looks fun, is incredible to talk about, and has social equity—but unfortunately has a fractional probability of success.

Tesla and bubbles

There are plenty of speculative investments that will make an article like this seem out of touch and tired. Maybe so. Take the electric car manufacturer who recently booked its first full year of profits. Yep, the investor and media darling Tesla is worth $800 billion and just turned a profit in 2020 for the first time since it was founded in 2003. The only issue is that it is not from selling cars. The bulk of their profit comes from selling regulatory tax credits, not from selling cars. Read more about Tesla here. This is fine, and I own a few Tesla shares inside my low-cost Vanguard S&P 500 index fund. The point in sharing a story about Tesla is not to shame those that own the stock, nor is it a knock on the product as they make a good car. Instead, it highlights the influence of VC money and corresponding expectation for speculative investing and returns.

Dr. Olivier Blanchard, the most cited economist in the world, penned a 1979 masterpiece where he said this,

"Self-ending speculative bubbles, i.e., speculative bubbles followed by market crashes, are consistent with the assumptions of rational expectations. More generally, speculative bubbles may take all kinds of shapes. Detecting their presence or rejecting their existence is likely to prove very hard."

If speculation were a person, I would write it a letter. It would be short. It would go like this, "As for our families and how we advise Human Investing clients, we view each dollar as hard earned and essential to a well thought out financial plan. There is no play money or money we can afford to lose. As such, we are not much for speculation." Sincerely, your wet blanket.

[1] Merriam-Webster defines speculation as “a risky undertaking.” Thesaurus notes it is a “theory, guess, risk, or gamble.”

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One of the interesting subplots in the finance industry during COVID-19 has been the rise of the day trader. Robinhood, an online brokerage and trading platform, acts as a proxy for many investors who are rapidly opening accounts at other brokerage firms including Charles Schwab, E*T, TD Ameritrade, Fidelity, etc.

Our firm works with thousands of employees via their company-sponsored retirement plans and has had many conversations end with a question/comment along the lines of, “What do you think of this Robinhood thing? Is it worth putting some money in there? Seems like (fill in the blank tech company) is making money! Should I buy some?”. So, I felt compelled to address the question(s) and provide some context around where a speculative trading account fits into a greater financial plan.

THE MAJOR PLAYERS

Source: Piper Sandler

E*TRADE: more users opened accounts in the month of March than any full year on record.

Charles Schwab: 1 million new accounts so far in 2020.

Robinhood: 3 million users opened accounts in Q1 2020. For perspective, there have been 13 million accounts opened at Robinhood since its founding in 2013.

The GROWING appeal OF DAY TRADING

The barrier of entry has never been lower to open an account and buy shares of publicly traded companies. Because many individuals are at home, trading is as cheap and accessible as ever, and some firms have incentive offerings (like a free share of stock when you open an account). Pair that with the stock market reaching its low point for the year on March 23rd and having one of its fastest recoveries ever (in other words the last 5 months have been a winning proposition for many investors), and you get to the point where we are today.

Today could be a euphoric place for an investor owning stocks since March. To me, euphoria looked like TMZ coming out with a trading subscription service… yikes. Stocks have only gone up, and popular tech companies have led the way. Kudos to those who might have doubled their money on a company like TESLA, but the last 5 months do not paint a realistic picture of what investing looks like over the long haul.

the emotional rollercoaster of Owning single stocks

When talking about owning a single company, I like this example. Owning a company like Amazon over the last 10 years seems like a no brainer (today). If you had invested $10,000 10 years ago, it is worth over $268,000 today. However, when you see that over the last 10 years, an investor would have had to hold through down periods of -25% over 5 times to get to where the stock is today. In other words, the stock was down 25% of its high over 5 times. Holding a company through those periods can be difficult, emotional, and in my opinion, is an objective way of capturing what owning a stock (even one that has performed as well as Amazon) is like.

Investing advice for smarter day trading

Whether you are someone who has already played around, are thinking of dipping your toe in the water, or your ego is already as big as ever because you’ve been a successful trader for the last 5 months, here is some advice on what it looks like to invest in your long-term plan vs. speculating.

Boundaries, Boundaries, Boundaries: If you are going to buy a stock on your own, don’t have it impact your overall investment strategy and long-term plans. What does that mean? Invest a dollar amount that you would feel comfortable taking a 100% loss on.

A positive outcome can mean… many things: Recently the Winklevoss twins (yes those Winklevoss twins) were quoted saying that Elon Musk is going to mine gold on asteroids orbiting the Earth, thus decreasing the value of gold and increasing the value of bitcoin (I promise this isn’t fake). One scenario is that their theory is wrong but in the next 5 years, owning bitcoin could be a profitable trade. In the same light, if you have owned a technology company or a fund that tracks technology companies since March, you have probably made money. Does this make you the next great market predictor? Most likely not. At Human Investing, we have a saying "process over results". So, in these situations, whether or not your account is checking up on your process is equally or more important.

Trading Journal: If you are seriously interested in the market and having a brokerage account, a trading journal is imperative. If you have a prediction, write it down, track it, and review your track record. It’s not a bad idea to do this for a few weeks to test the waters before you open an account.

Small Losses Can Lead to Long-Term Positive Outcomes: Here’s a hypothetical, stay with me. You read this post, you open an E*TRADE account, and deposit $200. You end up buying a few stocks and start following the market. You are following investing influencers on social media, listening to podcasts, and even watching CNBC in the morning. Then life happens. You get a little bored, lose track of your password, reset your password, and lose track again (this version of you doesn’t have LastPass 😊). Six months go by, and you see that your $200 is now $50. As a byproduct of this experience, you realize that you are better off opening up a ROTH IRA at Vanguard contributing $100 a month into an age-based target-date fund because you now care more about retiring comfortably. Your $150 loss on your account made you realize:

1. You are not interested in picking stocks and it isn’t easy.

2. You educated yourself about the market, the benefits of a ROTH IRA, and moved the needle on helping yourself retire.

Time will tell if this Robinhood movement is a fad or a long-term trend. Either way, if you have questions, want to grab coffee via zoom and talk markets, or talk longer-term planning, our team is here to be a resource.

Other Articles You Might Enjoy On This Subject

* Inside Story On Robinhood

* WSJ video on Robinhood

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I’ve done it with a construction project at my house and maybe you’ve done it with your retirement account. Yes, I’m talking about going to Uncle Larry, the person who is never short on advice but not necessarily an expert. For those of you who aren’t tracking, “Uncle Larry” is a figurative yet all too real figure who is willing to give out advice about most anything, and we tend to eat it up. Even though Uncle Larry is a tongue-in-cheek character, the reality is I’ve seen the damage he or she has done to retirement accounts. I get it, finding sound unbiased advice isn’t easy and the deck can be stacked against investors when it comes to receiving it. The good news is there’s hope. While we can't always run away from unsolicited advice, we can be equipped with some perspective and good questions to ask. My hope is to provide an outline with some good questions and standards when it comes to receiving advice, regardless of whether it’s from a family member or professional.

What’s your track record?

• This question might be a little awkward if you’re asking your sister-in-law at the Thanksgiving table, but it is a reasonable one if she is offering advice on your retirement plan.

• Don’t be afraid to get specific! If it’s an advisor, ask for references. If it’s a family member, ask for last year’s statement!

What’s your process for a recommendation?

• If all your older brother is doing is simply looking at what fund has performed best for the last 3 months, odds are you aren’t going to be in a good situation. Instead, looking at the funds expense ratio, or cost structure of the fund can be a great resource. The lower the expense ratio (relative to the asset class) the better the predictor of returns.

Is there a conflict of interest?

• This question is more specific to the cousin who works as a stock broker. If the name of the company she works for is the same as the name on the mutual funds in your account, that’s probably not a good sign. Imagine if Pizza Hut was the judge of the country’s best pizza; that’s like asking for the best fund from someone who is compensated by the recommendation they are making!

So what do I do?

• Ideally you have a personal financial advisor or an advisor through your retirement plan who aligns with your best interest, Registered Investment Advisor (RIA). It’s worth asking if your advisor is a “fee only” fiduciary who by law is required to act in your best interest.

Human Investing is one of many companies who act as a fiduciary to clients and plan participants. Note: that our official stance on receiving advice from a non-professional family member is not a best practice. However, if your Uncle Larry has given you advice and you would like a second opinion, we would love to help you. Please don’t hesitate to email or call!

Call: 503.905.3100

Email: andrew@humaninvesting.com

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