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Weekend reading: Investing can be even more painful than the history books record

Weekend reading

Good reads from around the Web.

A wildly disproportionate number of Weekend Readings have focused on market volatility.

And today’s post of the week by Morgan Housel for the Motley Fool US joins this innumerable crew.

Is there a more important subject in investing?

Perhaps keeping fees low, perhaps compounding regular savings for the long-term – but both of these strategies can be disemboweled long before the finish line if you sell up whenever the stock market crashes.

As Morgan writes:

The biggest story in investing is understanding why so many people have been hurt by, and are skeptical of, a market that has increased 18,500-fold in the last century.

The answer is that people hate to see their money go down. Even temporarily.

We’ve discussed many times just how scary investing can be, usually with a look at the worst years for returns.

What Morgan does with this piece though is show that even in the good times, stock markets are still tremendously volatile.

He calls this the “pain gap”, which is:

… the difference between what the market returns in a year and what it did during that year.

And he illustrates it with a cool graphic, which shows (in red) how big the swings between peaks and troughs were on average in a particular year, per decade:


Read Morgan’s article for more insights on this under-discussed topic.

And enjoy the weekend, when at least the markets are closed to even the most avid (and hence pained) stock price watchers out there…

From the blogs

Making good use of the things that we find…

Passive investing

Active investing

Other articles

Product of the week: A new tracker savings product from United Trust Bank, reported in The Telegraph, looks interesting. The two-year fixed term option pays 1.7% and the three-year 1.8%, but the neat bit is they promise to pay at least 1.2% above Bank Rate. So if the Bank of England raises interest rates, their rates will also rise. Your money is locked until maturity, mind.

Mainstream media money

Some links are Google search results – in PC/desktop view these enable you to click through to read the piece without being a paid subscriber of that site.1

Passive investing

  • Swedroe: The overconfident enemy in the mirror – ETF.com
  • Index funds are good corporate governors: Who knew? – Morningstar

Active investing

  • US ETF ticker symbols are getting less campy – Bloomberg
  • Apple is the new IBM – Quartz
  • Beware of property funds that can lock up your money – ThisIsMoney
  • Did Goldman pick a suspiciously good time to Buy Tesla? – Bloomberg

A word from a broker

Other stuff worth reading

  • Merryn: What’s so complicated about pensions? [Search result]FT
  • HMRC to tax bonus payments on current accounts – ThisIsMoney
  • The 31 hotspots where house prices will surge now – Telegraph
  • 2.5% may be a more realistic pension withdrawal rate – Guardian
  • Higher-rate taxpayers hit record levels [Search result]FT
  • Aspiring actors now drive for Uber instead of waiting tables – Vanity Fair
  • Celebrity house price crash [Poor dabs!]ThisIsMoney
  • Successful people hate to be told they were lucky – NY Mag

Book of the week: Did you enjoy Todd Wenning’s dividend case study this week? Todd has since emailed me to clarify the bargain £1.99 Kindle price tag for his book I mentioned is actually a special offer that runs out this weekend. So click right over to Amazon if you want to grab a super-cheap copy of Keeping Your Dividend Edge.

Like these links? Subscribe to get them every week!

  1. Note some articles can only be accessed through the search results if you’re using PC/desktop view (from mobile/tablet view they bring up the firewall/subscription page). To circumvent, switch your mobile browser to use the desktop view. On Chrome for Android: press the menu button followed by “Request Desktop Site”. []

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{ 20 comments… add one }
  • 1 John from UK Value Investor May 21, 2016, 12:31 pm

    Definitely like the idea of the Pain Gap. Most people don’t think of risk as volatility, standard deviation, beta or whatever; they see it as how much their portfolio might go down (or has gone down) from some previous peak. I switched over to that measure of risk a few years ago and much prefer it.

  • 2 dearieme May 21, 2016, 12:35 pm

    The classical advice for protection from the pain of a stock market collapse was to have a fair chunk of your portfolio in bonds (%age = your age, for example). But bonds have seemed expensive for some years now, so that they too seem vulnerable to the popping of a bubble. What is a pain-sensitive investor to do?

  • 3 dearieme May 21, 2016, 12:41 pm

    “But people don’t live zoomed out. They live day to day, month to month, brokerage statement to brokerage statement”: I remember Megan McArdle saying that she was young enough that the sensible thing to do with brokerage statements was to put them in a drawer unopened. We’re not young; we check the state of play every six months.

  • 4 Planting Acorns May 21, 2016, 1:07 pm

    @dearime…I’ve gone from checking daily to weekly, next stop monthly. I pray for your self control getting down to once every six months !

  • 5 The Investor May 21, 2016, 1:22 pm

    @dearieme — You (specifically) have been asking that question on this blog for at least five years. You’d have saved yourself a lot of wondering if you’d just added a slug of government bonds, rebalanced as required, and got on with life! 🙂

    See this article from Monevator from way back in 2012, when people were saying “dump your bonds idiots!” at every opportunity (and I owned none myself, so I can’t boast of being a contrarian in practice, either!)

  • 6 Gregory May 21, 2016, 1:23 pm

    Pain Gap is the source of the equity premium.

  • 7 Naeclue May 21, 2016, 1:44 pm

    @dearieme, I have been investing in gilts for over 20 years and I cannot recall them ever looking good value. Like houses in many ways – when have they ever looked cheap?

    Mainstream financial media have for the most part always hated bonds. Probably because the fund management industry can make more money by attracting punters to invest and churn equity funds.

  • 8 dearieme May 21, 2016, 2:44 pm

    “You’d have saved yourself a lot of wondering …”: oh I’ve not been wondering on my own behalf; I’ve found practical solutions. I’ve been wondering on behalf of the people in the accumulation phase of life who get told that gilts are the risk-free investment that they should add to their shares.

  • 9 magneto May 21, 2016, 2:50 pm

    There as often pointed out by many others, are two ways of looking at volatility :-
    1. Volatility = Risk
    2. Volatility = Opportunity

    1. Is much beloved by those wishing to bring mathematics (Risk/Return, etc) and historical analysis to bear on investment.
    2. Is much beloved by those who are PATIENT and DISCIPLINED enough to buy/add low and sell/reduce high.
    This as TI points out is only possible with some significant exposure to Fixed Income (Bonds/Cash) as a counterbalance to Stocks.

    Where else in life do we have a Mr Market coming to us each day offering widely varying prices to buy/sell?

    Having said that Route 2 is a lot easier to say than to put into practice, as the trauma of market losses unfold. As a result personally never rebalance fully immediately, but move gradually in the correct direction, month by month, thus working to some extent with momentum. Most calming on those frayed nerves!

  • 10 The Investor May 21, 2016, 3:44 pm

    I’ve been wondering on behalf of the people in the accumulation phase of life who get told that gilts are the risk-free investment that they should add to their shares.

    Well, again, instead of wondering, you might suggest they listen to better informed sources or that they listen harder — and understand that every element of investing works in concert, not in isolation. 🙂

    Gilts are not “risk-free”. They are, with cash, minimal risk, but different from cash.

    Cash delivers zero volatility but uncertain future returns. Gilts deliver known (nominal) returns over some particular time period, but volatility in-between. Equities offer neither, over any time period, but hold out the prospect of higher expected returns to compensate.

    Mix to suit. 🙂

  • 11 grey gym sock May 21, 2016, 3:51 pm

    stock markets are closed at the weekend, but estate agents are open. that means your house can crash in value, while your share portfolio is rock-solid 🙂

  • 12 BShnady May 21, 2016, 4:06 pm

    I’ve been investing for quite a long time such that I’m pretty desensitised to volatility and it does not unduly worry me; indeed, any feelings of ‘worry’ that are generated by down-markets are translated into “potential opportunity” so that the volatility is transformed into a positive, not a negative, trait of markets.

    However, something I found useful in the past – and a habit I still maintain because one day I may need it – is the method I use to record my investment account total. I manage my investment portfolio for a living, so look at it frequently (usually daily), seeing the account total swing around as is their wont. But this volatile account total is not a figure I directly record in my “net worth” records. Instead, the figure I actually note down in my net worth spreadsheets is:
    the lesser of [account total] or [account total highwater mark – 20%]*.

    In practice, this means that the account total I transcribe over into my net worth records is 80% of my investment account total’s highwater mark; and this transcribed figure usually only ever ratchets upwards. In order for this figure to move downwards my investment account total has to experience a drawdown of > 20%. Now, the makeup of my portfolio means that historically this has never occurred, despite traversing equity markets from the early 90s until today. Which is not to say it will not experience >20% drawdowns in the future – I’ll be amazed if it doesn’t one day – but my approach means that normal volatility (even volatility I’ve experienced in bear markets to-date) does not make an appearance in my net worth records. Instead, my net worth figure normally only ratchets upwards – in between lengthy periods where it remains stable – making it psychologically easier to either ignore volatility or treat it as opportunity not threat.

    Of course, this is all just mind game trickery, but since we’re often our own worst enemy when navigating markets, no harm in (knowingly) deceiving oneself if it helps to make investing easier and returns better.

    Other techniques are available for ignoring (or better, harnessing) volatility, but this is one simple technique I’ve used that helped me.

    *NB I refer to this [account total highwater mark – 20%] figure as my “drawdown provision”. In essence I’m intentionally understating my net worth to take (some) account of the volatile price of the assets my net worth largely comprises.

  • 13 BShnady May 21, 2016, 4:09 pm

    Oops, the Drawdown Provision = [20% of account total highwater mark]

  • 14 ChesterDog May 22, 2016, 9:58 am

    BShady, what a really good idea.

  • 15 ChesterDog May 22, 2016, 9:59 am

    BShnady – keyboard did its own thing with your name…

  • 16 SurreyBoy May 22, 2016, 10:09 am

    Bshnady makes an interesting point on how to avoid the pain of paper losses. I record my pension at its value at last December plus contributions to date, and my ISA funds only at the value at I’ve paid in. Yep, its mind trickery but I tell myself “however they perform, i hope to get out at least what I’ve paid in”. This works for me, although I clearly hope to get out more than I put in at some future point.

    This is the inherent problem with investing. In my case im investing “for the future” but other than a vague idea its 20 years away I dont know when that future is. All I do know (or at least think i know) is that is that the prospects of long term decent returns are higher in the markets than anywhere else. For me, this article reminds me that if you need the money in the next 10 years it should not be invested in equities. It also reminds me that volatility is very different to risk – but it takes nerves of steel to watch your holdings plummet and not be concerned.

  • 17 idmon May 22, 2016, 1:45 pm

    Interesting. Looking at the numbers one can understand the allure of market timing and active management. If you can become even half adequate then you will greatly outpace the average.

  • 18 The Rhino May 23, 2016, 11:28 am

    I’m liking these techniques for psychological damage avoidance when considering net worth

    Its probably quite sensible to avoid doing anything counter-productive when feeling the pinch

  • 19 magneto May 23, 2016, 11:38 am

    “Looking at the numbers one can understand the allure of market timing and active management. If you can become even half adequate then you will greatly outpace the average.” idmon

    WOW !!! Half adequate eh! If only !!!

    Think the following may have been posted before, to try and clarify such terms as ‘Timing’ and Active’.

    1. Tactical Asset Allocation aka Market Timing
    An endeavour to seek out the most or least promising Asset going forward for short-term outperformance, using such tools as economic criteria, valuations, or plain moving averages/accel/decel chartism. Can sometimes be taken to extremes by moving totally in or out from the most unpromising Asset Classes to the most promising Asset Classes.

    2. Investment Formula Plans
    2.1 Constant Value Investment (esp to Stocks allocation)
    2.2 Constant Value Investment, with added gentle slope over time (esp to Stocks allocation)
    2.3 Constant Ratio Investment (aka Strategic Asset Allocation) the Monevator default!
    2.4 Variable Ratio Investment (aka Dynamic Asset Allocation or Valuation Driven Investment)

    Because all the second group plans respond in a formulaic manner to whatever the market throws at them, they might be deemed passive?
    I.E. Not needing thought or decision making like TAA!

    The labels for the different approaches such as Active v Passive and esp name calling of Market Timing, I.E. Tactical Asset Allocation, seem all too often, mistaken, interchanged, or misapplied in the literature and in discussions?

  • 20 The Investor May 23, 2016, 1:34 pm

    @BShnady — Interesting, you’re effectively discounting the value of your equities to take into account their volatility. (Of course the market is doing this too, so it’s double discounting, but fully understand why you’re doing it). I’ve been exposed to the fluctuating value of the my entire net work on a sometimes second-by-second basis for hours on end in my very active experiments of the past few years, so can fully understand the motivation behind such mind games. 🙂

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