19 bad habits costing you fortunes (part I)
Posted by: Brian Dennehy
We all get into habits in life, and mostly they make us more efficient. Sadly our investing habits are more likely to lose us lots of money. But by honestly addressing them you can transform your investing success.
We have compiled a list of the most common bad habits. You might not suffer from all of these but you certainly suffer from one or two. A little introspection can go a long way. Let’s get into the first 9…
Most people are very bad at taking criticism. It’s understandable. We all have a view of the world and any criticism inherently questions the way that we think the world works. And self-criticism is like breaking our own arm!
If it helps, imagine you’re thinking about a friend, rather than yourself.
1. Stop buying funds on a whim
Let me introduce you to Jimmy, a very successful guy in the City, renowned in his specialist field which has made him a multi-millionaire.
Over a drink we chatted about the issues on my side of the financial services industry and the launch of FundExpert. He loved the idea, and could see the demand from people even of his wealth - accomplished in their own field, but struggling with their own personal investing.
Jimmy is a VERY honest guy.
He went on to tell me he had bought the new fund launched by Neil Woodford in 2014 after Neil departed Invesco Perpetual. I was intrigued, in particular because the historical Woodford performance was not quite as his HUGE publicity machine would have you believe (we produced research to illustrate the point at the time).
"Why did you do that?" I asked Jimmy.
"I liked the adverts" he replied.
For someone so astute, so highly accomplished, I was amazed.
As you can imagine I then went into a (friendly!) rant about the extraordinary difference in performance between outstanding funds and the rest.
I accosted him with volumes of our research. I can assure you he's listening now!
There might be really valid reasons for buying a Woodford fund – but a compelling advert isn’t one of them.
So stop buying funds on what is little more than a whim, in this case a compelling advert.
2. Stop worshipping fund managers
This follows neatly on from the first bad habit. Some people are impressed by numbers. But most of us are suckers for a story, irrespective of the numbers or numerical evidence.
All advertisers know this, certainly those in the fund management business (which is why #1 works so often).
They KNOW that most of us buy what is familiar; they know that as humans we want to believe, even worship. So they construct a fund manager idol for us!
Once we have made that kind of personal connection with a fund manager (rather than a fund) we are not inclined to sell, despite the evidence, the numbers, showing that the fund is failing.
3. Stop believing that fund management companies have your best interests at heart
I am not being unkind to fund management groups here – this is just stating the commercial reality. Fund managers are not charities, they are businesses.
Let me be blunt....
Fund management is a business, and like every business it is there to make profits for itself. Consider this. Who do you think is the most profitable fund management group?
· The one with the best performing funds
· The one which has the largest advertising budget
It is invariably the one with the largest advertising budget. Because MOST people buy funds where there is some familiarity – it is the way our minds work, and the most profitable fund management groups know that.
It is the way our minds work UNLESS and UNTIL you develop a clear process for selecting funds. This might be Dynamic Fund Ratings or another clear process.
4. Stop following the herd
Many investors follow the herd, but all too often it is too late.
I have observed this many times since the 1980s. Perhaps the best example was the tech bubble of the late 1990s. The higher the returns from tech funds, the more people got on board.
The Dalbar Report in the US tracks every year the terrible timing of retail investors from year to year. For example, the 2014 report showed that over the last 20 years equity investors lost 4.2% EVERY YEAR compared to being in a plain index tracker. That is an extraordinary deficit.
This was also separately confirmed in the Credit Suisse Investment Returns Yearbook 2014.
The root of the problem? Joining the herd of investors far too late – buying high, selling low. This isn’t because you were trying to be clever – but rather you lacked confidence to buy earlier – then once the herd is moving, once the market is already a long way ahead, only then will many investors jump on board, full of confidence – but too late.
The herd of investors is very powerful, and as the momentum and confidence of the herd grows, this creates bull markets and upward trends, which can go on for years.
5. Stop buying funds without writing down a clear reason for doing so BEFOREHAND
What exacerbates the latter problems is that very few investors write down what they are doing and why.
Frankly when you make an investment decision (whether to buy or sell) all too often it occurs in a bit of a haze, which is remarkable bearing in mind the sums you are investing.
Many investors spend more time researching a TV costing under £1,000 than on a prospective investment of £10,000, or £25,000 or perhaps even £100,000
That is crazy.
If you don’t know why you bought a fund how will you ever know if it is succeeding or failing, or when to sell it?
6. Ignore fund ratings! (most of them)
There is an industry providing ratings on funds, it has been around for years.
You might have observed it with Morningstar or Trustnet, and Hargreaves Lansdowne have their own rated funds as do Fidelity FundsNetwork.
But there is a very fundamental problem, and it is a big problem.
They lack the most basic evidence that they add any value.
Any worthwhile rating system MUST have the following criteria:
A clear process
An understandable process
A repeatable process
Solid evidence that these ratings actually add value...
...that is the rating must tell you something today about the likely performance tomorrow.
If these companies cannot meet these simple criteria with these ratings, what is the point of them?
Why should you take any notice of them at all?
The answer is simply that you should ignore them.
And if you currently use the fund ratings of one company or another, email them and ask them if they can meet the above criteria.
7. Stop obsessing about charges
A basic command of maths seems to convince some that they can disengage brain.
Fund B annual charge 0.78%
Fund C annual charge 0.23%
Which is the better fund?
Fund X up 406% last 10 years
Fund Y up 98% last 10 years
Which is the better fund?
In fact, Fund B is the same as Fund X.
The performance you observe day after day, whether on newspapers or online are all AFTER charges.
Do I want a fund with small charges and limited performance?
Or a fund with outstanding performance AFTER charges?
Surely, we all want to invest into a fund with outstanding growth potential AFTER charges.
8. Stop obsessing over irrelevant details
As human beings we have a thirst for knowledge, an inherent curiosity – it is what makes us what we are, it is at the heart of our progress as a species. But on occasion it is a very unhelpful trait.
And one of those occasions is when you invest.
Psychologists have spent a LOT of time on this. When faced with uncertainty (so buying risk investments rather than buying toothpaste) our brain fools us into thinking that if we have more information we can reduce uncertainty.
The psychologists call this The Illusion of Knowledge.
I prefer to call it The Illusion of Insight.
We think that with greater information we have greater insight.
This problem gets even bigger when you realize that merely having more information (relevant or not, right or wrong) increases our own confidence in the decision we make. This is VERY unhelpful when investing.
In addition, many people in their working lives have dealt with complexity every day, and with some success. It is therefore natural to assume that investing is also complex, so there is a tendency to over-complicate.
Whether you are just naturally curious, or spent your life solving complex problems, the chances are that you are obsessing over irrelevant details.
Let me go back to that earlier question:
What do you need to know about a fund to decide whether or not it is a good fund?
Tenure of fund manager?
Managers view on markets?
Top 10 holdings?
Consistency of performance?
Most of this is on the fund fact sheet. I do not believe any of that has relevance, beyond curiosity.
Even the consistency of performance. Looked at in isolation, just for a fund, it is not helpful. You need to see it in comparison with other similar funds.
I used to think that knowing what the fund manager had to say about the state of the world had some relevance. But forecasting is a mug’s game. Add to that:
· 92% of funds don’t beat a reasonable performance benchmark
· Fund managers are bound to find something positive to say, as it impacts on their business of running the fund
Sometimes I am still tempted by the prose of a fund manager, or some impressive, but isolated, statistic. I read a huge volume of material every day – I love reading, and I love reading what clever and insightful people have to say. BUT I also have to work hard to make sure that this doesn’t knock me off course.
If you continue to obsess over irrelevant details in your investing it will almost certainly result in less growth for you, greater frustration, and a lot of wasted time.
9. Stop trying to forecast the future
Many investors do this in the context of the stock market, or interest rates, or elections, inflation, unemployment, and because they think it has some relevance to your investments.
Let me make this clear – forecasting is a mug’s game.
In 2001 an IMF economist published a survey of the accuracy of recession forecasts by economists throughout the 1990s. He found that their record of failure was not far off 100%.
In June this year an updated survey was undertaken, over a longer period taking into account the 2008/9 period. As one commentator put it:
“The record of failure remains impressive”
Do NOT buy any investment based on your prediction, or anyone else’s prediction, of the future.
If you recognise that you do some of these don’t be down-hearted. We’re all guilty of many of these bad habits when investing.
Recognising that is a great first step on the way to improving our investing to achieve our potential!
Keep an eye out for the remaining bad habits in an upcoming blog.
Notes: Fund B/X: Slater Growth P Acc, Fund C/Y: Aviva UK Index Tracking 2 Inc. Performance is 10 years to 13 Sept 18.