To better assess the different factors affecting the markets at any given time, we sometimes write two lists on a notepad. One list focuses on the positives: “reasons why stocks might rise,” if you will.
The other list highlights specific risks. Think: war in the Middle East, political uncertainty, or slowing GDP growth. We generally focus on the macro landscape, but when it comes to the dangers facing investors, “too much conviction” deserves a permanent place on the list.
It is a great irony that while stock benchmarks produce relatively predictable results over long periods of time, they are extremely unpredictable in the short term. Of course, this does not stop investors or professionals from convincing themselves otherwise in the pursuit of better returns.
Consider some examples from this year:
At the start of 2023, the financial forecasters surveyed overwhelmingly predicted a challenging year for US stocks in their expert opinion. As of mid-November, the S&P 500 is up 17% year-to-date and on track to double the market’s historical average annual return.
What happened when Wall Street’s big banks and brokerages finally abandoned their 2023 recession forecasts in July and released more market-friendly economic outlooks? The S&P has been negative for three consecutive months, falling 10% from its summer high.
Then, the latest CPI report earlier this week showed slower-than-expected inflation, leading to a sharp rally in stocks. The Russell 2000 rose nearly 5.5% on Nov. 14 as investors pondered whether a “longer-term higher” interest rate outlook is as inevitable as consensus suggested.
There are at least two snack bars here. First, be wary of crowded trades and consensus forecasts. In financial markets, the herd mentality is more often wrong than right. Second, even the best trained and highest paid professionals cannot consistently predict short-term market trends.
A little belief can be empowering. Too much leads to unnecessary risk. A good investment advisor will first focus on managing risk for clients before making sales pitches about outperformance. In fact, the minority of active portfolio managers who can boast long-term outperformance have done so specifically because of their risk management skills.
At its core, diversification is the opposite of conviction. If any of us knew in advance which individual sector or stock would outperform, there would be no need to allocate investment money.
It’s true that a diversified portfolio is sure to contain some underperforming assets. Accepting this reality is an important step towards long-term success. It is equally important to consider the uncertainty and often irrational behavior of the market (and other investors).
Every item on our list of economic pros and cons has one thing in common: it is beyond our control. Here are some things investors can control:
Build an appropriate asset allocation taking into account your withdrawal needs and risk tolerance
Understand how your current portfolio performs compared to target allocations as markets move
Risk management by limiting concentrated positions
Maximize tax benefits by depositing into the right account types
Embrace the unpredictability of stocks
Adapt your strategy to changing needs
If you need help or updates on any of these topics, get a second opinion.
Even if you are confident in your approach, you should always remember humility when formulating your investment opinion. Most of us think about the reward of being right. Far fewer investors think about what will happen if they are wrong.
Too much belief can be your biggest obstacle to success.
Ben Marks is chief investment officer at Marks Group Wealth Management in Minnetonka. He can be reached at [email protected]. Brett Angel is a senior wealth advisor at firm.up.com. Brett Angel is the firm’s senior wealth advisor.
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