How to become a “2% Investor”

Here’s an anonymous investor, quoted by Bloomberg News, saying something perfectly reasonable about why he’s liquidated everything ahead of the election:

Chris, a 35-year-old technology worker in San Francisco, is terrified that Donald Trump might win on Tuesday night.

“Honestly, I’m pretty freaked out…I think he could absolutely cause a depression.”

So Chris sold off his diversified portfolio of stocks and bonds. His whole retirement portfolio, currently at $250,000, is now in Treasury Inflation-Protected Securities, or TIPS.

If Clinton wins, he reckons, he might miss out on a 5 percent to 10 percent rally, at most. “The downside of a Trump election is far more significant,” he said.

Again, sounds perfectly reasonable.

Except for the fact that “Chris”, if he’s wrong, will not be able to bring himself to buy after a “5 percent to 10 percent rally, at most.” He’ll sit with his near-nothing yielding TIPS and cash awaiting the next buying opportunity. And then the markets will fall someday – maybe even soon – and he won’t be able to buy then either. Because once the S&P 500 drops 5 or 10 percent, it always looks and feels like it’s about to go much lower.

Michael Batnick, my firm’s research director, has a nickname for the Chris’s of the world. He calls them “2% investors”. That’s what they make, annually. 2%. How do they lose the benefits of a diversified portfolio, with dividends reinvested and a rebalance each year? Because they’re more cautious than they need to be at the wrong time, and then grow more certain only after the market does.

Repeat this behavior often enough and you grind your average annual returns down to 2%.

Or worse.

Chris is 35 years old and presumably earning a high income out in Techland. He should focus on that and not trying to game corrections. He may get this particular exit right if Trump wins and the market panics. The odds of him getting the re-entry right – from my experience over 20 years of watching this stuff go on – are slim. The odds of him being able to do this repeatedly, over the next few decades of his life, in an overall advantageous way? I’d say zero.

And no, I’m not picking on the anonymously quoted Chris. This is probably how 3 out of 5 individual investors think and act.

We’re hardwired to do this. Jumping at potential danger over tens of thousands of years is why our ancestors were able to pass down their genes to us. If our ancestors hadn’t behaved in this way, we would not currently be here. Unfortunately, what worked in the wild over many millennia of evolution works directly in opposition of good investing.

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