Monday, March 14, 2011

Want Better Investment Returns? Stop Trading on Instinct

The world is obviously in turmoil.

Earthquakes in Japan, civil unrest in the Middle East - you name it, this is one of those times that reading the newspaper takes twice as long as normal.

A lot of investors - including me, perhaps - will look at everything that is going on and try to figure out areas that will either prosper in the months ahead (e.g. building companies in Japan) or ones that should be avoided (e.g. the nuclear industry anywhere).

As it turns out, according to a recent study cited in Saturday's New York Times, this is probably a better time to sit tight.

Authored by Paul Sullivan, the article (with the full link below), the piece was titled "When to Buy or Sell? Don't Trust Your Instincts" . According to research done by Phillip Maynim and Gregg Fisher, in periods of volatility the real value of an investment adviser was restraining the impulse to actively trade:

...the value of investment advisers was not in the stocks or mutual funds they recommended but in their ability to restrain investors from impulsively trading at the wrong time. It cites data showing that aggressive orders by individuals can cost them about four percentage points a year.

The study found that as volatility increased the urge to trade also increased - to the detriment of investment returns:

More than that urge {to trade} not going away, the Maymin-Fisher study found, it reappears just after a sudden rise or fall in the market. In other words, investors did not trade in expectation of intense volatility or even during it, which might be rational. They waited until the period of greatest volatility had passed and then looked to do what any adviser would tell them not to do: sell at the bottom or buy at the top.

Put another way, this may in fact be one of those times that simply reading the newspaper - and resisting the urge to "place a trade" - might be better for your investment returns than any other investment activity.