Don't Just Do Something, Sit There

The best way to legally hasten someone’s death is to arrange for the services of a personal physician.

This unsettling concept was suggested by academic researcher and author Nassim Taleb in his recent book, Antifragile. How could it be, you might ask, that the most effective way to push someone toward their death bed is to hire someone whose first rule is to do no harm? According to Taleb, it comes down to our human tendency to take action, even in situations when we’d probably be better off doing nothing.

This well-trained and highly-qualified professional will almost certainly feel compelled to diagnose and medicate the patient in order to justify her or his role—after all, who expects to be paid just to stand around? This need to act could easily lead to excessive care or overmedication to the point of causing harm. Does this seem unlikely? In addition to several examples from history, do you remember pop stars Elvis Presley and Michael Jackson? Their personal physicians were both charged with hastening their deaths.

As I was thinking about Taleb’s theory, I was reminded of a study published in the Journal of Economic Psychology a couple of years ago. It reviewed the decisions of elite soccer goalies during penalty kicks. For those not familiar with soccer, a penalty kick is a free shot at the goal from 12 yards away with only the goalkeeper defending. The study analyzed 286 separate penalty kicks and found that standing in the center of the goal, rather than jumping left or right, was a goalkeeper’s optimal strategy. Instead, what do these highly skilled athletes do? They scratch that itch to do something and dart to one side of the net or the other prior to the kick over 90 percent of the time. They hamper their team’s chances of success but are apparently unable to simply wait for the ball to come to them then move to intercept it.

Even those of us who are neither physicians nor professional goalies sometimes feel the urge to simply act: to buy something because it’s on sale, to hand pocket change to a homeless person or to invest based on a hot stock tip.

This bias toward action is especially common in investing. Since news is available 24/7 and individual investors can access their brokerage accounts via computer and phone, the urge to respond to what they hear is extremely easy to act on.

Is this sort of instinctive response helpful or not? That’s a good question. As planners, we believe that establishing a long term portfolio strategy is the first step towards success so making an investment on a whim isn’t likely to fit. Also, no matter how ‘hot’ the news seems and whether it arrives via broadcast or social media, it’s unlikely that you’ll be the first to hear. Acting impulsively, especially on what seems to be urgent news, increases your risk of  buying high. That is, when a number people buy on news, the group action pushes the price of the security up, bringing the average purchase price up too. If the news seems bad, the same effect pulls the price of the stock down meaning all traders run the risk of selling low.

Can investors insulate themselves from the urge to trade by using mutual funds? Most people’s investments must serve the needs of a lifetime but even using an investment approach meant to be left alone, the tendency to respond to daily headlines can still cause problems. Morningstar research shows that the average investor earns about one percent less per year than the fund itself through buying and selling at the wrong times. In attempting to respond quickly to changing situations, many individual investors actually hurt their returns.

As financial planners, one of our goals is to manage the lure of rapid buy/sell decisions for those clients for whom we provide asset management services. Since we begin with a plan, we always have overall guidance for our decisions. Even though we review every account every quarter, we only make changes when investment results have skewed the allocation we’ve previously established or when we decide to reallocate our portfolios. Of course this doesn’t guarantee success but we know it reduces the number of transaction, thus portfolio volatility.

Warren Buffet is rightly called the most successful investor of our age and he has stated that his favorite holding period is ‘forever’. We’re not that confident in our ability to make investment decisions but we are very deliberate about our trades, trying to emulate this modern master.