Market Predictions and Emotional Investment Decisions | Brandon Averill, Erik Averill, Justin Dyer | AWM Insights #80
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Episode Summary
Last week had the largest market down day of 2021, yet the markets finished slightly up on the week. What can and should you expect from the market?
Markets moving up and down is normal and should be expected. As an investor, you will live through many rough market days. You will experience many fear and greed cycles.
The key to weathering these storms is creating an investment game plan and sticking to it. You shouldn’t panic when the market is down 2%. Patience pays off in sports and in investing - you don’t bench your best player because they strike out once or twice.
Emotions cause bad decision making, but staying rational can be easier said than done. It is why the plan is so important, because reacting can destroy your returns.
Episode Highlights
1:18 The news you should know: US households' net worth hit record highs and the largest increase in real estate holdings ever.
1:54 Congress looks primed to pass tax increases on corporations, individuals, and estates. The capital gains rate is slated to move higher and also the top tax rate. Tax minimization strategies are also being targeted for removal including the backdoor Roth IRA.
3:35 Evergrande, a real estate company in China, is in danger of defaulting on their debt. This creates uncertainty which causes volatility in the markets. When a company as large as Evergrande defaults it can cause shockwaves that impact other companies and markets.
5:30 Market volatility is a normal and healthy part of financial markets. If markets only went up and there was little to no risk then you would not be rewarded in the form of higher expected returns. Risk and return are always related. It is a basic foundation of investing.
11:00 No one is surprised when a hitter strikes out. It's a natural part of baseball and no one panics when it happens. This is no different than markets and the selloffs, corrections, and recoveries that occur every year.
17:00 Risk aversion is an investor bias of losses hurting more than gains. Sticking to your investment plan and controlling emotions allows you to capture the returns you deserve.
18:00 Herd mentality and why it feels good to be doing what everyone else is doing. If you follow the herd instead of your own investment plan, you will damage your wealth.
21:00 Be careful where you get your advice. There is no need to feel insecure like you should know how to invest. CNBC and other financial media are preying on your emotions to drive their advertising revenue. Professionals that give advice only in your best interest would be able to help you focus on what matters for only you.
23:25 Brandon’s book recommendation: Get Wise to your Advisor. A great resource when it comes to finding an advisor.
Stay Connected
AWM Capital: IG | LinkedIn | Facebook | AWMCap.com
Justin Dyer: LinkedIn
Erik Averill: LinkedIn | Instagram
Brandon Averill: LinkedIn
+ Read the Transcript
Erik Averill (00:00):
Hey, everyone. Welcome back to AWM Insights, where each week we cut through the noise of what Wall Street is selling you to bring you the knowledge, the skills and access you need to invest like a pro. I'm your host, Erik Averill. I'm joined alongside my co-host, our chief investment officer, Justin Dyer, and our managing partner, Brandon Averill. And this week, we want to jump into the topic about what are your expectations when it comes to market movements as an investor?
Erik Averill (00:31):
We've obviously seen in this previous week, the first really big down day of 2021, which is so wild to say it was a temporary decline of only 1.7% in the S&P 500. And in that same week, we also saw the best daily return on Thursday that we had seen since July in the markets as we're recording this on Friday, look like they're going to end at least flattened if not up. And so really we want to make sure that we're setting, what are the expectations of that investor experience when it comes to the movement of the markets? But before we do, as always, we're going to jump into some of the news across the markets.
Brandon Averill (01:18):
Yeah, Erik, there's no shortage of what's going on out there. Reports came in today, some really awesome news, cool news to see that US household net worths have actually surged to fresh records. So this is being fueled certainly by the growth in the equity markets, the stock market, and also the largest ever increase in the value of real estate holdings. So anybody that's out there trying to buy a house, I think can attest to that, but we saw the household net worth actually increase by 4.3%.
Justin Dyer (01:51):
You got to thank [crosstalk 00:01:53]-
Brandon Averill (01:52):
Federal Reserve.
Justin Dyer (01:54):
... the Fed there, too, right? They're priming that pump.
Brandon Averill (01:57):
I know. On the one hand we got the government helping grow wealth, right? And then we get Congress, throws in a tax proposal out there as well. A lot of people are trying to decipher what's going on, but it looks like we're going to have higher rates both on the individual side, and the corporate side if things are passed for how they're drawing them up.
Brandon Averill (02:19):
But then also the bigger news, I think at least for our clients is the elimination of many common tax minimization strategies. So they're trying to do away with the backdoor Roth IRAs. They're trying to do away with some of the transfer techniques, and lowering the estate tax. So time will tell, nothing's been decided, but that's definitely a big topic out there.
Justin Dyer (02:43):
I think it's important there, Brandon, to note. I mean, this subject specifically is why this approach, the planning approach is so dynamic. You cannot just set it and forget it, whether it's your portfolio, whether it's your financial plan, whatever. I think it's really important to underscore that. I mean, the game, the playing field is constantly changing.
Brandon Averill (03:09):
Yeah. You have to stay on top of how the tax laws are changing. Make sure your plan, like you mentioned, is dynamic. And then in other ways, you need to stay consistent, stay patient, stay in. And we saw the other big piece of news out there was Evergrande and China's debt problems, it certainly seems like they're not going away. I think a lot of people were reacting. We'd certainly got questions, how does all this China stuff impact my portfolio? But to your point, I think, as long as you have the plan, this is actually an area where you do stick with it.
Justin Dyer (03:44):
Totally.
Brandon Averill (03:44):
You probably, hopefully aren't trading in and out, trying to read the tea leaves and predict the markets. We all know that doesn't work. But yeah, there's a lot going on out there, but I know we want to get back to the volatility of the week.
Erik Averill (04:04):
Yeah. So why this topic is so important is what we talk about. We're trying to cut through the noise every single week of the financial media. And when markets opened on Monday, there had been this news about Evergrande, and what's going on in China, and indebt problems. And the news was relating this to the collapse of Lehman Brothers.
Erik Averill (04:32):
And when you have no context, this should scare the living shit out of you, right? The problem is, it's completely out of context. This has very little to do with you, as in the investor, and your investment experience, or your financial structure, and your priorities, and the way that your customized investment plan should be set up. And so rightfully so, we had some clients that were concerned, who reached out and said, hey, the market, we saw this day where it dropped 1.7%. Should we de-risk, should we get out?
Erik Averill (05:11):
And the reality is, that's okay for a person who doesn't live within this world, but what we want to bring is some context that not only is this completely common, really, what is uncommon is this unprecedented time of not seeing a lot more volatility to the downside in the public markets. We haven't seen a 5% pullback since October of 2020, and we'll get into some stats in a few minutes. But that is really the atypical investment experience is just how positive markets have been. And then all of a sudden Thursday hits last week, and... Or yesterday as we're recording this, and we have our best day since July.
Erik Averill (06:01):
And so really what we want to walk you through here is what should you expect from the type of changes up and down in markets? And whether or not you should be making changes in your portfolio based off of these type of movements.
Justin Dyer (06:17):
Yeah. And I think it's important to underscore, not only have markets just been marching upwards in a fairly persistent fashion, they've been incredibly calm doing so, there's two sides to that. I would add, and then, Brandon, add to your thoughts, or add your thoughts to this. But what's happening in China and with Evergrande's debt problems is expected. Not to say that specific event is expected, but when you're investing in the markets, you're putting your capital at risk, you're buying shares of companies. You expect there to be some unpredicted event, or some sort of event throughout your... and many events throughout your investing experience that will drive prices down. That even might bankrupt certain companies that... I mean, go back to 2008, 2009, that really caused a shock to the whole financial system.
Justin Dyer (07:19):
But going back to my comment... And Brandon, thank you for underscoring that. You do need a dynamic plan in place, and you need to be able to adjust. But you need to do that within the long-term context of where your goals fit, right? You are long-term investors, your goals and your priorities are over the long-term, reacting over the short-term to a specific event, even the significant events.
Justin Dyer (07:43):
I mean, let's go back to March of 2020, COVID. That was a significant event, the market corrected 20 plus percent in some cases. I mean, that probably made a lot of people feel uncomfortable, but we had a dynamic plan in place to react to that with the long-term in mind. It wasn't, oh my goodness, COVID's shutting down the economy, we're making a prediction, and the economy is going to stay suppressed for six to 18 months from now.
Justin Dyer (08:12):
We don't have that crystal ball, and no one does, right? No one knew that the Fed or Congress was going to step in with this stimulus that they did. I mean, people are now saying that this is the best reaction the government and the Fed has had to a crisis, in history. Now, I think the jury is still out on that, but just to give you some context, most of the time the Fed reacts late, or Congress reacts late, or they were so partisan they can't even come to an agreement. Certainly, that was the case in the financial crisis. You don't have that crystal ball. So trying to have a plan that is reacting to predicting the future is just... it's a futile effort. And really at the end of the day, not only is it a futile effort, it puts your situation at risk.
Brandon Averill (08:57):
Yeah. And I would just add, I mean, it's healthy, right?
Justin Dyer (09:01):
Yeah, totally.
Brandon Averill (09:01):
We want markets to do this. When this news in China comes out, or we have the COVID correction. If you're a long-term investor, you want that to happen. And we've talked about this time and time again, but markets reflect all available information. If they're immune to negative information, if everything continues to march higher all the time in the face of news, negative news such as this, there might be something wrong.
Brandon Averill (09:29):
And I think healthy markets are going to have volatility. It's why we invest. We take our capital, you get rewarded for putting it into the markets. We know over the long-term, like we've talked about 9/11, 2008, the dotcom crash, through all those periods, your investment still grows. Now you have to withstand that volatility, but that is healthy. It's healthy when markets go up and down, but it's hard. It's hard on investors, and I think we just have to really remember that we're in this for the long-term.
Brandon Averill (10:03):
And when we have these momentary blips on the radar, and we see Bloomberg, or Yahoo Finance, or Fox News going absolutely crazy around these events, we just have to remember that their entire job is to keep your eyeballs on their screen, not to grow your net worth, not to grow your portfolio.
Erik Averill (10:26):
Yeah. So providing context, a lot of our listeners here are either active professional athletes, retired athletes, or just fans in general. And what I thought about this as Brandon and I were at the Braves, D-backs game the other day, and Freddie Freeman as usual hits a home run, has a double, guy's hitting over 300, hits a lot of home runs. He also punched out in that game. And what craziness would it be if after Freddie Freeman striking out, if everybody started panicking and was like, hey, Freddie, man, you got to change your swing. We're concerned here, I think we might take you out of the lineup, like that is laughable, right? Because what we understand when we are a player or we understand the game of baseball is, strikeouts are a natural outcome of playing the game.
Erik Averill (11:25):
It's this natural thing that is going to happen, so we don't panic. We don't pull somebody out of the lineup because over 600 at-bats, he's going to hit 30 home runs, 40 home runs. He's going to hit 300. Not only are we not going to panic, this is a mainstay because we understand based off of the evidence and the history of his performance, that he is going to lead to returns.
Erik Averill (11:50):
It's the same thing when it comes to investing is putting into context as an investor, what we should expect. And so some of these stats that I thought would be helpful is going, if we're thinking about investing as a game, like the game of football or the game of baseball, we go, okay, what are these stats? Well, first we're talking about, we haven't seen a 5% pullback since October of 2020.
Erik Averill (12:18):
Put it into this context, the average pullback that we can see in a calendar year is about -16%. There have been 53 double digit drawdowns since 1928. So what we know of when we think of a typical correction as well, it's not -1.7% on Monday. It's really, we expect double digits that are going to happen really about every four and a half years. That is the normal context of an investor's experience is that... Let's see, the market has fallen 30% or worse, 13 times, or one every seven years.
Erik Averill (13:10):
So once every seven years, the typical investment experience is that, markets temporary... And this is the keyword, temporarily decline more than 30%. But what we do as investors is the real differentiator, the real alpha is called patience. It's understanding why you're investing, that as a long-term investor, this money that you have risked because you don't need it today, you have invested into companies that are using that to produce goods and services, and that over time, they're going to make money. And therefore you are going to be rewarded as an investor.
Erik Averill (13:49):
You are not someone who's trying to panic based off of what happens on a daily basis. It's the money that you have given companies, seeking profits from, are matched to when you need to use that money.
Justin Dyer (14:04):
Yeah. The corollary to your baseball analogy with Freddie Freeman is, time in the market is way more powerful than timing the market. I mean, that's what we're talking about here, and you want to do that... You want that timing the market, and you want the approach to that to be systematic. Okay, what makes sense, what risk am I compensated for? We've talked about that. How can I get access to private markets? What should be my allocation to public markets? That should be very well structured, systematically put in place beforehand. And then you have some sort of rules and guardrails to react to times of stress.
Justin Dyer (14:44):
We go back to March of 2020, where we did some active tax-loss harvesting when it made sense, we could actively rebalance and buy some more depressed assets with assets that were potentially maintaining the value. These are all things that are put in place ahead of time. And the logic of them is very, very sound. It's either academically based, or based in some sort of economic logic, which you touched on Erik, where these are companies that are selling products to consumers. That demand is somewhat always there, right?
Justin Dyer (15:19):
Consumer demand does fluctuate, but there's this economic driver that then supports markets and the valuation of markets to come back from times of correction. And again, build wealth, compound over the long-term, compound over multi-generations, and really maximize your net worth.
Erik Averill (15:40):
Yeah. One of the things that you mentioned, this is not easy. So even if I have context... And we see this in sports, the general manager or the coach that panics, and everybody's like, dude, give it a rest, allow your players to play, allow them to go through a slump, because it's going to come out the other side. But a lot of times, it's the emotion as people. And we know this, we as humans are the biggest risk to our investment success. And it's because instead of it's why when we say, hey, you should sell high and buy low. That's a easy bumper sticker or investment mandate insanely difficult to do. And the reason is, we're prone to panic when we think, when we predict, when we try to believe that things are going to go south. And there's, too, what we would call behavioral psychology things that are at play.
Erik Averill (16:40):
The first is loss aversion, in their seminal work, Daniel Kahneman in Thinking, Fast and Slow, talks about this, that it is far more painful when we lose money than we have the same type of gain. If I gain a 100 bucks, I'm excited, but if I lose a $100, man, that hurts. And so there's this emotion at play that says, when I see declines in my portfolio, that hurts far more than when I see gains, and therefore I'm more at risk to make bad decisions.
Erik Averill (17:19):
And that's why we're trying to put things into context to say, hey, this is temporary, this is normal. Don't allow our emotions to dictate our decisions. Let's go back to the investment plan that we put on paper using all of the academic evidence in research that says, this is what leads to higher returns, that we put this plan together when things were rational. So that's what we go to, we go back to the playbook. We don't allow our emotions to make our decisions. And then the second one, it's herd mentality, we know this.
Brandon Averill (17:52):
Oh, yeah.
Erik Averill (17:53):
You don't want to be the person that on the upside gets left out, right? That's called fear of missing out FOMO, but it's also on the downside. You're like, wait a second, everybody else on Twitter, everybody else on TikTok, everybody else on Reddit and in the news is saying, the markets are going lower. This is it, it's going to crash. And you're like, well, I don't want to be the one who's sitting by myself, and so you follow the herd. Here's the thing, both of those are amateur moves. Every amateur investor allows their emotions to dictate their investment decisions. Professionals, pros, we go back to our playbook.
Justin Dyer (18:35):
Yeah. The behavioral side of it, I think it's very important to underscore. You can't eliminate some of those reactions. What is important is to acknowledge them, acknowledge them, pick up the phone, talk with your advisor, talk with us, ask us questions, and let's talk through it, and go back to the playbook like Erik said, right? We're humans, you can only do so much to get your brain to cooperate in some situations. But acknowledging that, that exists, and you can't necessarily overcome the feeling. You can overcome the reaction by going back to your plan, going back to the playbook, sticking with it, acknowledging your priorities, et cetera, et cetera.
Brandon Averill (19:21):
Yeah. I would just add to that, and I'm glad you brought it up, Justin. But it is, rely on your advisors because that's a big part of why you have them in your corner. They're giving you the advice, their job hopefully, is to help keep you in your seat and aligned with that playbook, that plan that you've put together. There's a reason why that... I think it's the DALBAR study, every year, they put a significant value on the advisor's ability to help you through these events. It adds to your return significantly over time. I think it was a fantastic point.
Justin Dyer (19:58):
Last point I'll make, there's a study, Schwab site, I can't think of the name of it right now. But basically, an organization went through a big, pretty in-depth study and said, okay, people who have a financial plan, who stick to their financial plan, end up having two and a half times greater net worth than someone who did not. I mean, that's incredibly powerful right there. I mean, two and a half X just by sticking to your plan, I mean, sign me up, right?
Brandon Averill (20:26):
Yeah, no doubt.
Erik Averill (20:28):
Yeah. So one thing I want to park on real quick is about the advisor, or where we're getting our advice from. Let's take it out of the personal situation first, and go to the medical situation, in the middle of COVID, right? What we should acknowledge is if I'm on Google... And I'm not saying do not do your research, right. But if I'm on Google real quick and I read something, that does not equate me to being an infectious disease expert, there's a difference. Because I read an article, or I did some research, or I listened to a podcast by Dr. Peter Attia, who I respect like crazy. I do not have the same skillset, experience, knowledge, expertise that an infectious disease doctor does. And therefore, I shouldn't understand the medical decisions that are going on at that level.
Erik Averill (21:24):
And I think, unfortunately, going back to the financial media, because they want to extract money out of your pocket, or Wall Street wants to... There's this famous book that says, Where Are the Customers' Yachts?" Meaning, Wall Street, they're the ones up in Rhode Island. They're the ones, the Goldman Sachs's of the world that are driving nice cars and have yachts because they're extracting dollars out of your investor pockets. Because they want to sell you something, they want to sell you news. They're not in your best interest.
Erik Averill (21:58):
And so if that's where you're getting your advice from, you just got to recognize, hey, there's a conflict there. They don't know me, they don't care about me. And then as an investor, you're not supposed to know all the stuff, so don't feel bad. I know I was this way when I first had a signing bonus, and I would feel insecure, like I should know what's going on in the public stock market. That's crazy, right?
Erik Averill (22:22):
So I essentially want to let you off the hook is the investor that says, you know what? I don't have to follow the herd mentality. I don't have to have the anxiety of trying to stay up with the news. That's why you hire an expert, that's why you hire advisors that have no conflicts of interest, that have no products to sell you, and that have these designations, right? Like, Justin, the CFA. He wakes up Monday through Friday, at least 40 hours a week, and he thinks about what is the best most rigorous, academic evidence-based way to invest your money as a client. And if you're not waking up, and you're not putting that amount of time in, and you haven't put the expertise in, you shouldn't expect to be successful when it comes to making investment decisions.
Brandon Averill (23:11):
Yeah. And I think Erik, you should wrap it up, we've gone long. But one quick plug is, there's a fantastic book out there. Longtime advisor, Steve Lockshin, and it's called Get Wise to Your Advisor, highly recommended on this topic. If anybody wants to reach out, we're happy to get you a copy if you reach out. So we'll throw that out there.
Erik Averill (23:35):
Yeah. And I just want to end on this note, and I'm not going to take credit for it. The majority of this came from an incredible blog that we've talked a lot about on this podcast, A Wealth of Common Sense. And it goes back to this market timing situation. And really, it's helping us understand that, even if you think that you can predict the movements of one individual company, it's just not that. You would have to be able to predict every single geopolitical, every macro and fundamental story ahead of time, to figure out where the investment world's going. And not only predict what happens, but here's the hardest thing. You would have to predict what human beings, who we just talked about, are irrational, how they would invest based off of these events that they could predict.
Erik Averill (24:30):
And I think if we're all being real honest, that's insanely difficult to do. But here's the good news, as we've laid out, if you work with your advisor who knows your priorities, and develops a customized investment plan for the long-term, your patience will be a differentiator, and you will outperform the masses, and most importantly, be able to achieve your priorities. And so make sure you head over to awminsights.com, we'll link everything in the show notes. And until next time, own your wealth, make an impact, and always be a pro.