As much as I try to encourage investors not to be unnerved by it, I realise that stock market volatility can be very hard to ignore. Global markets have been on a rollercoaster ride for the last few weeks, and it’s only human, particular for those nearing retirement, to feel a little anxious.
Focus on what’s important
Trite though it might seem, the best advice at times like these is to focus on what’s important. For those who have a financial plan, including an investment strategy that matches their capacity for risk, the questions to ask are these:
— Have the recent market falls jeopardised my plan? and
— Have circumstances changed sufficiently to warrant reviewing my plan?
The answer to both of those questions should be a resounding No. The fact that markets are lower than they were a little while ago shouldn’t make the slightest difference to your plan.
The Focusing Illusion
The problem with market volatility is that tends to affect our focus. It causes us to focus on the wrong things.
In his book Thinking, Fast and Slow, the Nobel Prize-winning behavioural scientist Daniel Kahneman describes what’s known as the Focusing Illusion, which holds that “nothing in life is as important as you think it is while you are thinking about it”. When you’re thinking, for example, about falling markets, the uncertainty surrounding Brexit, the strains in US-China trade relations and so on, they all seem very important.
If, on the other hand, you focus your mind on your long-term financial plan, which was designed (or at least should been) to withstand just these sorts of episodes, you’ll have a much healthier sense of perspective.
Again, we know it’s easier said than done, especially with all the scary headlines we’re seeing at the moment. But times like these will pass; they always do. A few years, or possibly months, from now, you’ll probably wonder why you were quite so anxious. That’s if you haven’t forgotten about it altogether.
Fortuitously, the latest part of Your Own Worst Enemy, our video series on investor behaviour for the UK financial planning firm RockWealth, tackles this very tendency to base decisions on what seems most important right now instead of on likely long-term outcomes.
Behavioural scientists call it availability bias, of which there are different types. One example is salience, or the way we allow major events to cloud our judgement. Some investors, sadly, never get over losing money in major market downturns; the Wall Street crash of 1929, for instance, is still ingrained in people’s consciousness, and yet most of us weren’t even alive at the time.
But the most common type of availability bias is recency — in other words, giving greater weight to recent information than the long-term evidence warrants. It is, of course, perfectly natural that we are heavily influenced by recent events. When we perceive those events as negative, they loom larger still.
In the great scheme of things, however, volatility and market downturns are not really negative at all; they’re part of investing. More than that, they’re actually the reason why there’s an equity premium at all.
If you’re feeling anxious about the markets, I hope this video helps you to see the bigger picture. If it does, please do share it with others. If you’ve missed the rest of the series, you can watch Parts 1 to 4 on the RockWealth YouTube channel.