Fund Managers Attempt to Calm Nervous Investors

We all know the common refrain police use at a crime scene to clear out a crowd: "Keep moving! There is nothing to see here!" Last week, I discovered that my 401K provider has been issuing a similar decree to nervous investors surveying the stock market's crime scene: "Keep investing, there is nothing to worry about here."

My provider greets all investors who log in with the following introductory greeting:

"PLEASE READ THIS IMPORTANT PLAN ALERT INFORMATION BEFORE YOU CONTINUE.

It’s easy to forget your retirement goals and make other mistakes when the stock market is chaotic, but investing during times like these can have an upside. Click on this link to watch a brief presentation to learn how to help keep your retirement plan on track and avoid making some commonly made mistakes during times of market volatility.

I would have been amused if I did not already know what horror show awaited me within the small equity portion of my account. I decided to play along since it is always good to understand the justifications for investing that the public receives.

The click took me to a seven minute video titled "Investing for retirement: Volatile markets and retirement planning." The soothing, somewhat mechanical and methodical voice of the narrator starts: "...Let's talk about how you can stay calm in rocky periods...Don't worry. When markets seem chaotic, there is a bright side." Of course, the bright side is that investors get to buy shares at cheaper prices. But to do that, investors must avoid making four common mistakes that come with a volatile market:

1. Forgetting your goals
2. Investing too conservatively for your goals
3. Selling when it's time to buy
4. Locking in losses

The main theme is that the stock market is an automatic money-making machine...given enough time, persistent saving, consistent portfolio rebalancing, and the courage to ignore the market's trials and tribulations. Let's take a look at the highlights of the key points that describe the four common mistakes.

Forgetting your goals

When times get volatile, emotions can make you forget about your long-term goals for retirement and discourage you from saving. You should instead "be patient, keep saving, take your time with making investing decisions, and stick with your long-term retirement strategy." Moreover, you should "ride out the bumps in the market...what's more important than the monthly balance that you have today is the balance 10, 20, or 30 years from now."

Investing too conservatively for your goals

All investments have some risk. Inflation risk is just as important and may require that you pursue a more aggressive investment strategy. Your money manager can help you figure out how much investment risk you should take.

Selling when it's time to buy

Use dollar cost averaging to avoid selling when it is time to buy. Buying in market declines can result in owning more shares. The more shares you own, the more money you can make.

Locking in losses

Selling investments that go down in price locks in losses because you do not give them time to appreciate again. A chart of the S&P 500, including dividends, from 1973-2007 "proves" the point that selling during market contractions is a losing strategy over the long-term. (No note is made that the last two contractions, 2000-2003 and 2007-2008, both erased all the gains from the previous expansion phases, 1998-2000, and 2003-2007.) Periods of contractions are random fluctuations.

So what is the action plan going forward?

1. Start or keep saving in your plan
2. Revisit your asset allocation
3. Keep your allocation balanced with automatic Account Rebalancing

All of the advice here encourages the retail investor to continue to treat the stock market as an automatic money-making machine. Declines are dismissed as aberrations - over the long-term there is no need to understand anything more about the market except that sometimes it goes down, but most of the time, it goes up. This is the same message retail investors have been fed for many years - at least until some have dared to declare that "buy and hold" is dead or that you should buy and pay attention. Regardless of where you stand, it makes sense to consider the likelihood that the bull market which began in the early 80s was essentially funded by a steady decline in interest rates, increasing debt, and lower savings rates . So, to the extent that we are embarking on a phase of deleveraging and increasing (cash) savings rates, we must respect the possibility that returns in the near future will be much lower than the past...and for the same or higher levels of risk.

I like what Bill Fleckenstein has to say on this:

We have just come through a decade-plus in which the Fed intervened successfully enough so that folks came to look upon the stock market (and then the real-estate market) as pet kittens that spit out hundred-thousand-dollar bills. Markets are not like that at all. They are more like savage beasts looking to rip your head off. The era of 'pet markets' that effortlessly make people rich is definitely behind us. That is not to say that folks can't get rich via the markets. I don't mean to imply that. What I mean is that it's a lot harder and riskier than it has looked over the past couple of decades.

After the tech bubble popped and then the housing bubble popped, I was fond of guessing that it would make sense for an unprecedented bubble to lead to an unprecedented collapse. It seems we got that.

I was also fond of marveling at America's ability to pile on debt and still make out "OK." This story continues to unfold. Considering what is at work now, we should not expect our automatic money-making machine to work as desired or expected.

As demonstrated by the above messaging, the big-money institutions must now fight to keep the dollar bills flowing into the coffers. I suppose the unflinching endorsement of the stock market by the big-money institutions works against the common Wall Street ridicule of retail investors as the marks for contrarian signals: bottoms are created by their mass exit and tops are created by their mass endorsement. But I suspect that in a period of historic economic distress, when it seems like the entire world is fleeing to the relative "safety" of Treasury bonds, uttering "keep investing, there is nothing to worry about here" is not going to carry the same comforting ring it used to carry.

Be careful out there!

Full disclosure: Long S&P 500 in an indexed mutual fund. For other disclaimers click here.

Comments

[Dr. Duru:]

Author note: this piece is not really about the collapse of the bubble. It is more about the message I received from my fund manager. Original title: "Keep Investing: Nothing to Worry About Here"

2008 Dec 01 07:40 AM

[Crank Monkey:]

It's always a good idea to evaluate what people say with regard to who they are and what their interests might be. While managers of 401k's care deeply about having money continue to flow into their plans, they are much less concerned with the investment results of plan participants. This is typical of financial services companies in that they get their cut no matter what happens to their clients.

2008 Dec 01 09:33 AM

[axelrod608:]

I think Byron King said it best, that this is not a bull or a bear market. It is a Great White shark market. And every investor is bleeding at least a little.

In a "normal" recession, buying depressed stocks is wise. In this market it is conceivable that a lot of companies won't be around when the dust settles.

I'm parking my money in gas, oil and gold. If we get to the end of this mess and people are still driving cars and heating their homes, I'll be OK. If not, it won't really matter now, will it ?

2008 Dec 01 10:25 AM

[bobbobwhite:]

The author says all the right things we have learned so well over the past 10 or so years about investing caviats and specious calming statements from money mgrs in a bear market, but then in his disclosure he states he is long a S&P500 index fund??? Huh?

He did not follow his own good advice of "be careful out there" as he has surely lost fully one third or more of his own equity investment this year by holding throughout this bear market. Seems pretty obtuse to me.

2008 Dec 01 10:57 AM

[bigmoney:]

the trouble with 401k is the layman investor is left to fend for themselves, and make prudent decisions. Overall, I would expect the layman to fare much worse than the professional investor. They will take on more risk, and get less reward.

2008 Dec 01 11:47 AM

[Gary Noffke:]

This whole thing stinks. We have four star blue chip stocks that have dropped 30% of their value in ten years. We have inflation which has increased the loss in value that much again. We have corporate management stealing from stockholders, claiming their options and bonuses then immediately writing off billions. Next we have the US Treasury bailing out the the banks and corporations "too large to fail" with tax-payers money, the tax-payers, most of whom have already been screwed by the system. If anything is ever trimmed in a bureaucracy, it's the workforce, the products, but never the management. Then we get the doom and gloom journalism and media commentary about the economic outlook which causes fear and panic. Articles like this are a classic example of the media further screwing up a bad situation. Perhaps a constructive approach with facts rather than stupid negative speculation would be helpful.

2008 Dec 01 06:51 PM