|Total Returns %||
|Dow Jones Industrial Average||+0.96%||+1.81%|
|S&P 500 Index||+1.71%||+2.83%|
|U.S. Aggregate Bond Index||+0.21%||-0.02%|
|MSCI All Country World||+2.42%||+2.05%|
Source: Morningstar, Inc. Data through 1-14-11
Global markets enjoyed a nice rise this week. The market drivers for the week were easing tensions (for now) in Europe, global shortfalls in soft commodities, and positive earnings reports from Intel and some of the big banks. As I have commented previously, the markets are looking pretty stretched. There are more than a few indicators pointing to the markets getting close to a pullback. With that said, I think the other side of a pullback in the market will usher in higher levels in global markets as the Fed is still priming the pump and earnings are looking good. Longer-term who knows, but in the short to medium term, the market should continue up after a breather.
One of the emails I had forwarded to me this week was a comical sketch about investing from BehaviorGap.com. There were two boxes with one word in each box. One box said “Fear” and the other “Greed.” Underneath the boxes were the words “pick one.” I found the image, as well as the brief write-up that followed, very timely. I found it timely because we are at a point in the market where investors are wavering between both fear and greed. The fear is born out of remembrance of the recent past and the huge losses their portfolio experienced. Also, there is fear of fundamentals like the problems in Europe, unemployment levels, debt levels, and the state of the States (California, Illinois, etc.). However, greed starts to creep in tempting investors to take on more risk than there is possible reward.
The greed starts to increase as investors watch stocks climb, and suddenly, the market memory starts to get shorter, and the fundamentals start to get less important again. It is always good to keep in mind that the markets do not go straight up and down.
What follows is a long quote from the BehaviorGap.com article (it is worth reading):
“Understanding when you’re more susceptible (to emotions) can help you better manage individual behavior during periods of fear and greed. However, you need to remember that the things you might do to manage fear will have an impact on your experience during times of greed and vice versa. Let me give you an example. If in the past you found, as most of us do, that the pain of loss is much more acute than the pleasure you get from gain, there are ways that you can manage your portfolio to avoid, or minimize some of that pain.
You can have more in bonds. You can keep more in cash. You can remain hedged. In general, you can be more conservative with your investments. At the same time, you need to hold your course when the market does start to go up. Think about what happens when the coast is clear and everyone around you becomes “greedy.”
There will be a temptation to throw aside your “safe” plan, but you need to remember that to manage your fear, you can’t participate to the same degree as others might in the upward trend. The tools that you use to manage fear will act like an anchor behind the boat in times of greed. You won’t be one of the people to borrow money against their homes to invest in a “hot” stock.
For others, the reverse may be true. If you can’t handle sitting on the investment sidelines and hitting singles and doubles while everyone around you SEEMS to be hitting home runs, then you need to build a portfolio that maximizes the opportunities during times of greed. When you pursue this investment strategy, remember that when things turn and everyone gets fearful again, you will be exposed to that downturn.
Building your investment strategy to manage fear is fine. Building your investment strategy around greed is also fine. Each path has its benefits. But what is not fine, what causes the big behavioral mistakes, is switching between the two strategies. The worst thing you can do is build an investment strategy to avoid large losses and then forget how important that is at a time when the market goes up.”
I propose that in the current state of affairs, market caution is prudent. Caution should be heeded in regard to both strategy implementation and investment selection.
Would you like an analysis of your current investment portfolio? Call me to schedule your free consultation- 913.693.7918.
John P. Chladek, MBA, CFP® is the President of Chladek Wealth Management, LLC, a fee-only financial planning and investment management firm specializing in helping families and couples who are not yet retired realize their financial goals. For more information, visit http://www.chladekwealth.com.