Genetic Disposition?

by: Roger Nusbaum

Barry Ritholtz reposted a writeup from Cassandra Does Tokyo about the extent to which some people might have a "doomsday gene" for gravitating to the world as we know it is over case to the point of harming their portfolios.

I am not familiar enough with this blogger to know how much if any of the post was tongue in cheek but the psychology is always interesting to ponder. Many would say that the bear case is always more compelling (I have said that before and believe it is true) but of course more often than not the bear case has not won out.

The stock market has an up year 72% of the time (this was an accurate stat a few years ago so if it is different now it is only slightly so) so by definition the bear case is wrong most of the time. Of course, behaviorally bear markets feel much worse than the benefit we get from bull markets. I think it was Hussman who observed that the average bull market lasts three or four years and goes up an average of 180% but that the subsequent bear lasts for a little over a year or so and takes back half of the 180% so the market action of the bear phase is much more intense. Again, I may be attributing that incorrectly but you understand the concept and the fear created leading to the compelling nature of the bear case.

The investors targeted in the post focus too much on what should be versus how markets normally function. I think this is where objectivity and portfolio discipline come into play. My own philosophy is to try to capture most of the upside while avoiding the full brunt of large declines in hopes of adding value over the entire stock market cycle. This stated objective means never forgetting that there will be a next bear market which can lead to thinking a long the lines of what is discussed in the linked post.

Hopefully we minimize this by heeding the 200 DMA or other messages from the market, we did some buying in late 2008 and early 2009 which was good but of course we could have done more. In the last (almost) four years the S&P 500 is up about 110% and those types of moves don't come along very often. There is a difference between having been overly cautious and maybe being up 80 or 90% in that time and being paralyzed and only sitting on a 10-20% gain because the market shouldn't have gone up.

This post is neither bullish nor bearish so much as an acknowledgment that psyches and market behavior don't necessarily align and this is something to recognize and factor into how you navigate a market cycle.