Historic August: How Well Did You Manage Behavior?

In this historic month of August, around the time some government credit ratings were downgraded due to threats surrounding the size of their deficits, 72% per cent of Canadians owed money; 40% were unprepared to handle their financial obligations in the event of an emergency and 26% had less than 3 months of savings in case of disaster—like job loss, or disability, for example[1]. 

Financially speaking, these are weak branches to cling to in the aftermath of a big financial storm. With so much debt to contend with, people abdicate their purchasing power to their creditors, every day.  Translation:  that makes you poorer, faster.

Unfortunately, some people see volatile economic times as the right ones to increase debt—margin accounts, investment loans and home equity loans[2].

Showing people what lies ahead doesn’t always help much.  We can receive information about the strong underlying growth in the economy, together with learned five year economic forecasts that back up this new growth.  But this is all meaningless to most of us if we are in a state of panic, or prolonged shock.

Investors, in fact, do exactly the wrong things at the most volatile times.

Individual investors become more agitated by what they have experienced in the past, than by market forecasts of what their future experience will be[3].  They lose money in times of great volatility because this is the precise time they want to change their path, trade against their advisor’s advice and thereby causing great damage to their portfolios.

How much damage?  Staggering, based on a large scale study of large scale study done in Taiwan over several years[4].  Taiwan has the world’s 12th largest financial market.  The losses to individual investors from trading were approximately 2% of GDP for Taiwan over the study period, 1995 to 1999.  .  . and those were good, stable years in the market compared to recent times (2008-2011).

Investors would have been better off financially to put their money under their mattress than to trade on their own accounts. 

This is further support for the notion that the best that an investor can do is to construct a very low cost, tax efficient portfolio based on global diversification and then let their professional work closely with them during volatile times to manage their financial behavior.

That, in fact, is one of the key roles of your financial advisors: to stop your reactive responses which could significantly erode your wealth.

It’s Your Money, Your Life.   You will need an astute team of professional financial advisors to keep you from trying to outperform the market by trading the portfolio.  In short, you don’t have to recover from financial disaster alone, and in fact, you shouldn’t.  

Evelyn Jacks is President of Knowledge Bureau, a national post-secondary educational institute focused on excellence in financial education. The comments above are excerpted from her latest book entitled Financial Recovery in a Fragile World, co-written by Al Emid and Robert Ironside.  This can be pre-ordered at www.knowledgebureau.com.

[1] CIBC Poll, summer 2011.

[2] Ray Turchansky, Post Media News, August 13, 2011 “Debt-ceiling deal in US has investors pondering their next moves.”

[3] Philip Z. Maymin and Gregg S. Fisher, “Preventing Emotional Investing:  An Added Value of an Investment Advisor.” NYU-Polytechnic Institute, New York

[4] Barber, Brad M., Yⁿ-Tsung Lee, Yu-Jane Liu, and Terrance Odean (2009). “Just How Much Do Individual Investors Lose by Trading?” Review of Financial Studies.

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