Three Things That Don’t Matter During a Market Sell-Off

A few weeks ago I looked at three things that matter during a market sell-off. This sell-off has continued and investor angst grows. One of the best ways to avoid crippling mistakes during bear markets is to focus on what you can control. Here’s the follow-up with three things that don’t matter during a market sell-off:

Which smart beta fund you’re invested in. When correlations go to one and everything is falling, the long-only stock fund you were looking to for protection and diversified returns probably won’t matter very much. Take a look at this sampling of smart beta/risk factor ETF performance so far this year:

Small Caps (SIZE) -10.8%

Momentum (MTUM) -10.7%

Quality (QUAL) -8.7%

Value (VTV) -9.6%

Anyone invested in a long-only stock market fund has been feeling the pain this year as there have been very few places to hide. These products aren’t meant to offer meaningful downside protection. Diversification amongst risk assets only helps in the long-term. Historical risk premiums aren’t free. Investors in smart beta shouldn’t be surprised when most of these funds fall even more than the overall market. That’s how risk premiums tend to work.

Someone else’s portfolio or time horizon. Charlie Munger once said, “I’ve heard Warren [Buffett] say a half a dozen times, ‘It’s not greed that drives the world, but envy.’”

There are thousands upon thousands of smart people out there offering their opinions and analysis. There’s something for everyone — long-term investors, indexers, active investors, traders, economic data groupies and so forth. It can be very confusing for investors to know who to trust and who to follow because the temptation will always be there to listen to that pundit or portfolio manager who has been right lately.

What most people fail to realize is that it doesn’t really matter who nailed the latest market moves. What matters is whether or not something is relevant for your particular situation or time horizon.

There will always be a person, fund or strategy that is performing better than your portfolio. Someone else’s returns, predictions, time stamps or investment recommendations should have no bearing on how you invest unless you’re able to frame it in terms of your own unique situation and goals. Outperformance envy will not help your investment returns. Neither will someone else’s strategy if it’s not well-suited to your personality, risk profile and time horizon(s).

Hindsight. By nature, we humans are pattern-seeking creatures. The recency bias causes us to assume that the trends we’ve just witness will continue well into the future. Investors are quick to predict that the next crisis or black swan event will play out exactly as the preceding one did. Fighting the last war is usually a mistake because every time is different in the markets. As Seth Godin said this week, “Pattern matching is for amateurs.”

It’s a hopeless strategy to constantly worry about what you should have done. Sure, try to learn from your mistakes, but you can’t be  caught hopping around from one fad strategy to the next and compounding earlier mistakes. Even the greatest investment process will experience poor outcomes at some point.

Markets always seem easier, more certain and less volatile with the benefit of hindsight. In reality, markets are never easy, the future is never certain and things are always messy. Plan accordingly.

Further Reading:
Three Things That Matter During  Market Sell-Off

Now here’s what I’ve been reading this week: