In case the action over the past few days hasn't made it clear, traders appear to be implementing an age-old Wall Street-ism right now... "Do nothing, absolutely nothing until there is something to do." Put another way, it looks like most investors have decided to sit on their hands until the storm brewing in Washington passes.
This means that the algos are large and in charge at the present time. Stock indices are now moving violently each and every time a politician says something, regardless of whether or not the comment made was meaningful. So, raise your hand if you too are growing tired of the stock market lurching in either direction to the tune of 0.5 percent every time a computer runs a series of programs.
Given that there haven't been any real developments in the debt debate, the current spastic intraday moves are likely to stick around a while. As such, the remainder of this morning's missive will focus on investing strategy. What follows may be simplistic, but most investors can benefit from a big-picture strategy session every once in a while.
As Peter Lynch Said, Invest in What You Know
It is a safe bet that most investors focus a fair amount of their investment portfolios on the U.S. stock market. Since stocks have been the best performing asset class over time, this certainly makes sense. It also follows that investors prefer to invest in what they know and where they feel comfortable. So again, investing in the U.S. seems to fit the bill here.
Since the turn of the century however, investors have discovered that investing in the U.S. stock market also entails a little thing called risk. Two devastating bear markets, both of which produced losses in excess of 50 percent, within a nine year period has forced both individual and professional investors alike to reconsider the concept of risk. Every investor now knows that risk happens fast in the stock market and that it can be very, very painful.
So, the key question is how do investors capture the benefits of the stock market and yet avoid the mind-numbing declines that tend to occur during bear markets?
If memory serves, since 1900, the average bull market has produced gains of more than 80% while the average bear market has sported losses about 31%. And if you spend some time with a calculator, this combination can actually work to an investor's advantage over the long-term.
The Problem Is...
No offense intended, but the fact of the matter is the vast majority of individuals who invest in the stock market don't really know what they are doing. They don't understand the secular and cyclical trends. They don't know that most moves are overdone. They don't recognize what actually drives the market. They don't get the idea that the market is a discounting mechanism. They are confused when a company reports good earnings and the stock goes down. And they don't know how to recognize risk levels in the market.
Thus, too many investors wind up reacting to their emotions by buying when things "feel safe" and then selling when the pain of loss becomes unbearable. This means that investors basically implement a strategy of buying high and selling low. And the bottom line is this math just doesn't work very well.
A Three Step Plan
In an environment where markets move fast - in both directions - investors need to have a plan, a strategy, or a discipline to guide them. In addition, investors need to be able to stick with their plan/strategy when times get tough. And if the first part of that equation isn't hard enough, the second part (the sticking to it) can prove challenging - especially if you don't really understand your plan.
So... step one is to decide on a plan of attack. Frankly, it doesn't matter whether your plan is to dollar-cost average (buy each and every month) for the next twenty years or if you are going to use a sophisticated long/short trading strategy to try and make money in all environments. Again the key is to have a plan.
Step two is to understand your plan. This means knowing the positives and negatives of your plan. It also means understanding when/how your particular strategy can struggle (don't kid yourself, ALL investing strategies struggle from time to time and/or in certain environments). In all honesty, this is not an easy task. But the point is to take the time to get to know how your approach is expected to work in various market environments.
And then step three is to implement your plan on a consistent basis. In short, this means that you don't get to pick and choose when you will follow your strategy. No, you've got to commit. And yes, this means you have to continue to implement your plan even when it isn't working very well. That's what disciplined investors do. And this is also why disciplined investors can succeed in the long run.
Finally, if you don't feel qualified to pick a plan or you don't know the ins and outs of a plan that you've chosen, feel free to contact us. This website is here to help investors. So don't be shy, we really are here to help.
Turning to this morning... Concerns over the political games being played in Washington are hurting the markets again today in the early going. In case you are wondering why traders care so much about the situation in D.C., Bloomberg reports that a Government shutdown would hit GDP by as much as 1.4%. So, with the 10/1 deadline for a deal to avert a shutdown quickly approaching, it appears that traders may want to avoid possible headline risks over the weekend as futures are pointing to a lower open on Wall Street.
Positions in stocks mentioned: none
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