The Secret to Long-Term Investment Results
Investing can seem complicated, but the hardest part isn’t the numbers or the asset allocation.
It’s the psychology.
In fact, the secret to being a good investor isn’t to be smarter than everyone else or to have the best ideas. It’s to have a plan and to exercise discipline and control. In other words, one of the big secrets to investing is to simply get out of your own way.
Here’s how it works.
Imagine this scenario: let’s say you have a comfortable nest egg and you’re 5 years out from retirement. You’ve spent your life making prudent, sometimes difficult, financial decisions in order to get to this point, and you’re really looking forward to the golden years.
And now, imagine it’s 2008 and the financial markets are falling. Fast.
What do you do?
If you’re like many investors, your first instinct might be to sell. You want to get out, prevent further losses, and go to cash instead of watching your life savings fall with the stock market.
You’ll get back in when the markets turn around, you think to yourself – except that by selling, you lock in your losses and almost certainly miss the turnaround point that gets you back in cost-free.
Equity investing requires patience
Consider this example: If you had put $100 in the S&P 500 in the beginning of 1928 and you stayed invested the whole time, you would have over $328,000 by the end of 2016.
But this is just before the Great Depression. At the end of 1930 that $100 would only be worth $98. By 1932 it would only be worth $50. At what point would you have sold out your account? And how would you know when it was “safe” to get back in?
Hindsight is 20/20, but in the moment no one knows.
Unless you have a crystal ball, enjoying long-term growth pretty much always requires a long-term plan – and long-term patience. Trading in and out of the market just makes it harder to make up losses, and raises the bar to break even.
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But maybe you have other bad investment habits
To be fair, the Great Depression and the financial crisis are special cases: after all, crises don’t happen every day.
But maybe you have other little investment habits, like tinkering with your allocations every couple of months or going in and out of individual stocks. Maybe you “rebalance” your portfolio every month so that you can feel like you’re doing something with your money.
The problem is that all this “doing something” is costing you money.
Not only does trading trigger transaction fees, which can add up very quickly, it makes it difficult (if not impossible) to take advantage of the one serious benefit that investing can bring: long-term growth.
Tinkering can be just as costly as panicking
Unfortunately, the results of excessive trading speak for themselves:
- Households who traded the most in a study of 65,500 families earned 11.4% on their accounts between 1991 and 1996. In that period, the market return was 17.9%.
- In 2015, the average equity mutual fund investor underperformed the S&P 500 by 3.66% – despite guessing the direction of the markets correctly 9 out of 12 months. In other words, even if you’re pretty good at guessing what the market is going to do next, it doesn’t mean you’ll be able to make money from it.
- One of the seminal studies in the field found that, on average, men traded their accounts 45% more than women – and, as a result, reduced their returns by nearly a full percentage point compared to female account owners.
Here’s what you should do instead
There are two parts to getting investing right.
The first part is to have a detailed plan. A prudent investment strategy will account for your unique risk profile (be sure to try our free online risk assessment tool!), your personal financial goals, and the individual lifestyle factors you’re facing. Your investment plan should incorporate the right level of risk exposure for your long-term goals.
The benefits go beyond performance and returns: knowing why you’ve invested in a certain why and what it can accomplish for you over time can really help reduce stress through difficult markets – or defeat the temptation to trade when your trigger fingers get itchy.
The second part is to stay disciplined. While you may need to rebalance your accounts – something that’s generally done quarterly or annually – you should otherwise give your strategy the time and space it needs to produce results. Investing is, for most people, a long game, with a time horizon that can span anything from years to decades.
If your personal strategy is designed for you as an individual, you’ll be prepared for ups and downs and poised for the potential benefits of being an investor.
Of course, going from concept to reality can be difficult.
This is where speaking to a financial advisor can help. Call us today for a free consultation and find out how Vitucci & Associates can help you build towards a more independent financial future.
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