When What You Know Isn't So

| October 21, 2022

I have never actually written down and numbered what has come to be known in the office as Guyisms. One of these is that “nearly everything that you think you know for certain is probably wrong.” I thought about this when I saw an article in The Wall Street Journal about how day traders have gone back to work. Peter Rudegeair and Gunjan Banerji report that “the average retail portfolio, which includes stocks like Apple Inc., Tesla Inc. and Visa Inc., has declined 34% this year through Tuesday.” *  I imagine that the meme stock and options traders have faired much worse. Does anybody want to buy an expensive exercise bike company right now? How about fake meat or crypto? Without stimulus checks, real work is no longer optional.

This doesn’t surprise me. John Nofsinger, William H. Seward Endowed Chair in Finance and professor of finance at the University of Alaska has written extensively on the subject. In his terrific book The Psychology of Investing, he notes that American Association of Individual Investor survey respondents overestimated their returns “relative to the market” by 5.11%. In a study by Markus Glaser and Martin Weber of online investors in Germany during the Dotbomb era, investors overestimated their performance by 11.6%. Low-experience investors overestimated by 13.2%. If you think that these people are probably uneducated dummies who can’t do math, think again. A study by Goetzmann and Peles found that architects they surveyed about their retirement plans “recalled investment performance that was 6.22% higher than their actual return.” **

Of course, some of them cannot do the math. A loss of 34% requires a gain of 51.5% to get even. If your plan is set up so that required returns at some unknown point in the future will be more than 50%, then good luck to you. A 10% loss requires 11% to get even, a return that is not unusual. A 15% loss requires 17.65% to get even, also not unusual. Those who have lost 50% will need 100% returns to get even. Much more if he or she is living off of dividend and interest income. The need for income makes that level of loss unsustainable.

Fortunately for those who are moderate in their investment habits, stock dividends and interest rates today are high enough for income investors to ride out the storm. It never feels good to see one’s account fluctuate or paper losses on the statements, but cash flow is the ingredient necessary for long-term success for anyone who wishes to maintain their quality of life. Anyone who believes otherwise has probably found out recently that what they know isn’t so.

* Rudegeari, P. Banerji, G. "Day Traders Go Back to Their Day Jobs as Stock Market Swoons." The Wall Street Journal, Online | Markets/Stocks, October 19, 2022. https://www.wsj.com/articles/day-traders-go-back-to-their-day-jobs-as-stock-market-swoons-11666148094. Accessed on 10.202.2022.

** Nofsinger, J. R. The Psychology of Investing, 6th ed.. (Routledge, 2018), 59-60.