Animal Instinct

The last couple of years have seen new investors flock to the market. The combination of pandemic-induced savings and the ennui of working from home is perhaps primarily responsible. Easy access to low-cost or free-to-trade investment platforms is certainly playing a part; investing has never been easier for the individual. The recent media motif of ramming the increased cost of living down your throat has maybe made a few more people wake up and smell the investing roses. Or should that be tulips?

Middle of the pack

The annualised returns on asset classes over the past twenty years. Source: JP Morgan

Fortunately for all the new kids on the block the average investor, mediocre though they are, has outperformed inflation over the past twenty years.

The bad news is that UK inflation is at its highest level since the early 1990’s. Average performance simply may not cut the mustard; there’s a strong prospect of real investment losses even if there’s nominal gain. Many will simply Dunning-Kruger themselves into believing they’re the bees knees; their strategy will prevail. Yet, much like the lame caribou that lags behind the herd, if investment returns are hamstrung they risk being devoured by predators. Predators such as that indefatigable bastard inflation.

UK inflation since 1990. Bar a brief rise to ~5% around the GFC, inflation has remained ~2% for the majority of three decades. The sudden increase to nearly 6% has put the cat amongst the pigeons.

To make matters worse for investors new and old, nascent 2022 has hardly been kind to the markets. The oft-vaunted S&P 500 is down the better part of 10% in the past month. Most major cryptocurrencies are nosediving too, with over $1T of value lost in recent weeks.

The performance of the S&P 500 over the past three months. It hardly makes for happy reading, especially the sharp sell-off in recent weeks. Source: Yahoo Finance

Outright panic has not yet set in, though if the market trend continues I expect some cages will be truly rattled. So, what to do?

Stop nature taking its course

The natural instinct in the face of such danger is to flee. You’d abandon a sinking ship, wouldn’t you? Those who stay to see whether the vessel resurfaces may end up rather soggy. Conniving snakes would encourage you to follow this instinct when it comes to your finances, hissing at you to ‘sell, sell, sell!’

Yet everything we know about retail investing suggests selling in a downturn is a dubious strategy at best. You’ll probably get the timing wrong. You’ll probably crystallise losses by selling too late, then miss out on gains by buying back in too late as well. The dangers of attempting to time the market hardly bear repeating, as they should be well-ingrained in any investor’s modus operandi.

Performance of the biggest cryptocurrencies by market cap. Other than ‘stablecoins’ USDT and USDC, most major cryptocurrencies have taken a sharp dip in value over the past month. Investors are fleeing risky assets; for all the quasi-religious fervour that surrounds cryptocurrencies the sell-off demonstrates how many are merely invested for a quick buck or two. Source: CoinMarket Cap.

If you’re feeling tempted to sell in the face of the current drawdown, which is a minor blip in the grand scheme of things, then I’d question the fortitude of your investing psychology. I suspect many of the new investors in recent years have spent their time crafting beautiful portfolios, or have blindly followed others into a passive investing strategy like so many sheep. Unfortunately, few will have done any research about behavioural investing, done their own due diligence on risk, or thought about how to act when markets are in turmoil. That is, few will have spent time protecting their investments from their biggest threat: themselves.

A post on the UK Personal Finance subreddit last week. If the markets continue to tumble, I suspect we’ll see more questions like these popping up. Source: Reddit

We’re not talking about guacamole

If engaging with your impulses in times of crisis is likely to be detrimental, is the reverse true? Should one ‘buy the dip’?

There are certainly those who would encourage you to do so. ‘Buy, buy, buy!’ bellow the bulls. Said call to action has all the panache of a DFS advert. “Fire sale”, “cheap stocks”, “discounted shares”, “limited time only” etc. Bait designed to hook our primordial brain in the same way as the bright, yellow, “buy 2, get a 3rd free” label in the supermarket.

Although the action is different, the outcome from investing more in a falling market may be similar. You’ll probably get the timing wrong. You’ll probably buy too early, watch your investments fall further and then panic, selling before any (meaningful) gains have been made. Pensioncraft’s recent video runs the numbers, confirming a ‘buy the dip’ strategy is only suitable for nachos.

Hibernation

If neither selling existing investments nor sinking more money into the market are likely to lead anywhere rewarding, what’s the best option?

Burying your head in the sand is, in general, not a fantastic approach. However, in these circumstances it’s probably not the worst one to take. Skyrocketing inflation and rising cost of living? Doesn’t matter, you’re oblivious to it. Investments taken a hefty hit? Doesn’t matter, you haven’t checked them. In a bear market, perhaps the best thing is to do as the bear does and simply hibernate. Tune out, hunker down and see what the world is like on the other side.

If you’re already employing a dollar-cost-averaging strategy, drip-feeding your money into the market each month, then continuing with this chelonian approach is probably most sensible. Let the hares have their panic and drama; we know the tortoise will come out on top in the end.

No room to swing a cat

This ‘see no evil, hear no evil’ approach may seem too blasé for all but the nailed-on passivistas. Yet if you’ve reached a state of financial optimisation; if you’re debt-free, saving as much as possible (without compromising on things that bring your life quality) and investing said savings via tax-free or -deferred accounts (namely ISA’s and SIPPs), then what can you do? It doesn’t leave much room to manoeuvre. Doing nothing may be the most sensible, or perhaps least insensible, option.

My own plan is to ignore the noise. To block out the sound of yet another market cycle. To pay no heed to the ‘buy the dip’ proselytising or panic-selling evangelists. I’m essentially following the path of least resistance, or certainly the one of least deviation.

In short: I’m heading to the Winchester, having a pint, and waiting for all of this to blow over.

TTFN,

Mr MedFI

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