This article was first published in BusinessDesk on 22 April 2024
Managing emotions key to securing long-term returns.
Investing in a market after it has risen or leaving when it has fallen are among the most common ‘emotional mistakes’ Kiwi investors make, a leading financial adviser says.
“They are traps we see people falling into time and time again and which, over their lifetimes, can end up costing them a lot of money,” says Philip Morgan Rees, Head of Private Wealth at the New Zealand-owned investment specialist firm, Milford.
“The last 12 to 18 months have been a classic case; markets struggled through 2022 and 2023 before they came firing back over the last three months of 2023. In scenarios like this, I am disappointed when I see people come in and out of markets when I know they would have been better off had they stayed the course.”
Morgan Rees says investing is more than picking the right companies to invest in: “A huge part of it is being able to manage emotions through market ups and downs because, although we may not think so, human behaviour is very much driven by emotion and so it is crucial to take emotion out of it.
“This is called the emotional gap where people make decisions based on emotional strains such as anxiety, greed, fear or excitement. Waiting until prices rise before buying and selling once they have fallen is an example, but that’s exactly, unfortunately, what happens with investing.”
He says most financial advisers would discourage people from investing over the short-term, a view supported in a 2024 report by UK-based wealth managers Canaccord Genuity Wealth Management: “Historically, financial markets have demonstrated resilience and the ability to rebound from economic downturns,” the report says. “Staying invested allows you to participate in the rebound and benefit from the potential upside.” [1]
Morgan Rees says prices move up and down over time and their track is neither a straight nor a smooth line. “For some investments it’ll be greater than for others and it is crucially important to understand this point and not overreact.
“Anxiety or fear is very real and can lead to mistakes. One of the greatest investors of all time, the late Charlie Munger (the US businessman, investor and philanthropist who died last year at 99 and was vice chairman of Berkshire Hathaway, a conglomerate controlled by Warren Buffet) said: ‘The big money is not in the buying and selling but in the waiting’”.
Morgan Rees says his belief is volatility (in the markets) is the price to pay for higher, long-term returns and the big question for people to ask is whether they are investing for, say, two years or for their lifetime. If the answer is lifetime, or a decent length of time, “then why focus on the short-term?”
Morgan Rees says herd behaviour – where investors mimic others rather than considering the situation carefully and making their own decisions – is another significant pitfall. “This is notorious in stock markets and often occurs because people have a fear of missing out.”
Loss aversion – a situation where people make decisions because they feel the pain of losses more than the pleasure of gain – is also common, a factor which Morgan Rees says seems to increase among investors in their retirement years.
“While these emotional challenges impact all investors, they are particularly acute with newer, less experienced investors or those who, for example, are wired to expect predictable returns.” He says these situations often arise because of the absence of a considered and informed plan or sometimes a lack of financial knowledge.
“Plans may change and will always need to be kept up to date but having a plan is essential. As is knowledge. The right knowledge about investing isn’t necessarily the latest shiny thing but more about how markets operate and what that means for your investments.
“The psychological impact of planning creates some control over what is happening and helps control emotional short-term responses,” Morgan Rees says. “A plan also serves as a reference point when markets surge or fall. “I say stay with your plan, don’t lurch from crystallising losses to re-entering markets after the rally – invest all the way through, put your money to one side and let the money you have invested do its work because research shows that investors who stay the course are rewarded.”
He says education and financial knowledge helps people to know what to expect. “No one can predict the future, but we can understand what we have invested in, what volatility may mean, how diversification works and the difference between different types of investment and how the price of them is influenced.
“Understanding these elements means we don’t get unduly surprised and anxious about events. For example, if I have no investments in Japan, what does it matter that the stock market there rose or fell or similarly, if the New Zealand economy is forecast to struggle and 90 per cent of my investments are elsewhere, how concerned should I really be?”
Morgan Rees says getting help from someone like a financial adviser could be an important step to enhance investment results. This was highlighted by the 2023 Russell Investments ‘Value of an Adviser’ study which found professional advice could improve portfolio outcomes by 3 per cent per year. [2]
“As financial advisers we are in large part there to help people make good decisions, understand how markets work, help them manage the emotional gap and the impulse of herd behaviour.”
This article does not take into account your investment needs or personal circumstances. It is not intended to be viewed as investment of financial advice. Past performance is not a reliable indicator of future performance. Investment involves risks and returns can be negative as well as positive. Milford Funds Limited is the issuer of the Milford KiwiSaver Plan and Milford Investment Funds. Please read the relevant Milford Product Disclosure Statement at milfordasset.com. Before investing you may wish to seek financial advice. The Disclosure Statements for all Milford Financial Advisers contain more information and are available on request, free of charge. See our Financial Advice Provider Disclosure Statement at milfordasset.com/getting-advice.
*1 Take the long view: why staying invested is better than moving to cash. 2 January 2024. Canaccord Genuity.
*2 Value of an Adviser report. 2023 (NZ). Russell Investments.
