When the stock market experiences a downturn, as it did on August 20th, the advice to individual investors is clear: do not do anything drastic. Ignore the headlines and stick to your long-term investment plan. In fact, if you have the means, there’s no better time to buy. However, this advice is much easier to say than to follow.The SigFig data team examined investors’ behavior during this recent market correction. So how did SigFig Managed Account holders fare compared to other investors?In the weeks prior to August 20th, for every one SigFig Managed Account holder that withdrew funds, four account holders added funds to their accounts (Fig. 1). After August 20th, that ratio increased to six to one. In order words, SigFig Managed Account holders were 1.5 times more likely to add funds than they were to draw down. (Nice job, everyone.)Fig. 1 | The ratio of SigFig Managed Account holders who added funds to their account to those who withdrew funds from their accountIf we look at a bigger population of investors that use SigFig to sync their portfolios, we see that the majority of investors did nothing as a result of the market correction (Fig. 2).Fig. 2 | How investors who sync their accounts with SigFig reacted to the August 2015 market correctionThat’s great to see, because when we look down the road at portfolio performance, the more investors panicked and sold, the worse they fared in terms of portfolio return (Fig. 3). Fig. 3 | 12-month total portfolio return based on investor reactions to the August 2015 market correction The market can be unpredictable, but as our recent analysis shows, staying the course is typically your best bet. For other good reads and data reports related to this topic, check these out:
Individual investors have had a long love affair with Apple (AAPL). SigFig data has shown that it is one of the most popular stocks for investors of all ages, and over the past few years, SigFig users have not just held the stock but continued to acquire more of it. However, recent data suggests that some investors’ optimism may have waned in the lead-up to the company’s first earnings announcement that will include sales figures on the Apple Watch.Our Apple Optimism Index tracks the portion of investors trading Apple stock who are buying versus selling it. Since 2011, we’ve seen steady interest in the stock. During most weeks, more Apple investors are buyers than are sellers, but buying tends to spike immediately prior to product announcements. For example, 69% of Apple investors were buyers right before the announcement of the iPhone 4S, and 72% were buyers in advance of the iPad mini announcement.At first, investors showed similar excitement about the Apple Watch. In the week leading up to the first announcement of the product in September 2014, 75% of Apple investors were buying the stock and only 25% were selling. Leading up to the March 2015 Apple event in which the company gave the world a closer look at the watch, almost 70% of Apple investors were buying.More recently, however, buying activity has dipped. In the week leading up to this quarter’s earnings announcement, less than 60% of Apple investors have been buying, and as many as 40% of Apple investors are selling the stock. There has been a lot of speculation that sales of the Apple Watch will not compare favorably to those of the iPod or iPhones. Recent buying and selling behavior suggests that some individual investors may expect disappointing news from this quarter’s earnings.
Of course, with 60% of Apple investors buying the stock, a majority of investors are still betting on the company to continue to outperform. However, our Apple Optimism Index suggests that investors are not as optimistic about this quarter’s earnings as they have been about other major events in Cupertino.
Stock-picking is hard, even for the professionals–and it is only getting harder. A recent study by professors Robert Stambaugh and Luke Taylor at the Wharton School of the University of Pennsylvania, and Lubos Pastor at the University of Chicago, found evidence that it’s getting harder and harder for active mutual funds to outperform index funds. Why? Because the mutual fund industry as a whole keeps getting bigger.The more investors there are looking for great investing ideas and exciting, underpriced stocks, the harder it is to find anything the rest of the world hasn’t already discovered. In fact, the researchers found that active fund managers are actually getting better: they are more skilled at investing, but it doesn’t matter, because the industry is simply getting too big. Managers have to be more skilled just to keep up with the increasing competition.If the pros are getting more and more skilled without getting ahead, then why do individual investors think they can beat the market? SigFig data shows that the more individual investors trade, the less they earn. Individual investors also tend to bet too heavily on single stocks: 60% of investors have more than 10% of their portfolio invested in a single stock. Picking stocks and trading actively in an effort to beat the market simply doesn’t work for individuals.So why do investors keep doing it? What makes people think they can succeed where so many others, including highly educated professionals, are doomed to fail? According to a review of the research on investor behavior by Brad M. Barber, a professor of finance at the Graduate School of Management at the University of California, Davis, and Terrance Odean, a professor of finance at the Haas School of Business at the University of California, Berkeley, there are three reasons why individual investors engage in the self-defeating effort to beat the market:
1. Investors are overconfident.
Research shows that individual investors are overconfident–they think they know more than they do, and they think they know more than the average person. In fact, the more an investor thinks they are knowledgeable about investing, the more they are likely to trade frequently. And, of course, the more they trade, the worse they do. Incidentally, men tend to be more overconfident than women, and tend to trade more often. They are also more likely to lose money in the market than women are.
2. Human emotions get in the way.
Individual investors have an unfortunate habit of selling their winners and holding on to their losers. From a tax perspective, it makes more sense to let gains run and sell losing stocks for the tax credit. But individual investors tend to get a little rush of pride when they sell a winner and realize a gain. When they sell a losing stock, on the other hand, they feel pain and regret. Basically, investors hold on to losing stocks to avoid that pain. This effect might be particularly strong for investors who have chosen the stocks in their portfolio themselves and attach their feelings to it as a result.
3. The media encourages “herd mentality” behavior.
Investors tend to rush into stocks that receive media coverage. Companies that hit a new stock price high or beat earnings predictions are showered with affection from individual investors, because those news events draw investors’ attention. After all, there are way too many stocks out there for any investor to be knowledgeable about them all. A news story about a stock offers information that some may believe is enough to act on, without going through the trouble of doing additional research.
News stories can also spark selling, of course. A current example are the headlines blaring that Greece is about to default on its debt to the IMF. Investors who sell when stocks start to fall, however, take a loss–and miss the upside when the markets rebound. The best move during a downturn is often no move at all. Stay put, stick to your plan, and keep buying at regular intervals.
If individual investors cannot beat the market–and even professional investors, on the whole, cannot–the best plan is not to try. Choose a diversified set of low-cost index funds and stick with them, avoiding the temptation to trade heavily or jump on the latest over-hyped winner. And remember, if you still think you can do better than the average investor, that may just be your overconfidence talking.
Fitbit’s (FIT) June 18 IPO valued the maker of wearable activity trackers at over $4 billion, and its shares rose more than 50% in the first day of trading. This week, the stock saw more gains after an analyst predicted it would outperform and could rise to a price of $45 a share (it’s currently trading at just over $40 a share).FitBit’s users are health-conscious, relatively tech-savvy, and motivated by pie charts and badges that track their progress towards a goal. But who are Fitbit’s investors?According to SigFig data, here are three characteristics of investors who’ve jumped into Fitbit’s newly public stock:
FitBit IPO investors like tech stocks
Investors who bought FIT in the first 10 days it was available have about 40% of their stock holdings invested in the tech sector, compared to 32% for all investors who bought any stock in the same period. In general, SigFig data shows that many individual investors haven’t sufficiently diversified their investments. They tend to bet too heavily on individual stocks, and most are over-invested in stocks and underinvested in bonds.
Almost half of them are IPO fans
Fitbit has sold millions of its activity trackers, and certainly some investors may have bought the company’s newly public shares because they’ve heard a lot about it or are customers themselves. However, SigFig data shows that about 4 in 10 investors who bought FIT also bought other recent high-profile IPOs like Alibaba (BABA), GoPro (GPRO), Mobileye (MBLY), Twitter (TWTR), and Shake Shack (SHAK) within 12 days of their debuts. Like Fitbit, many of these IPOs also grabbed headlines with big first-day gains. Unfortunately, only institutional investors who own shares before an IPO really participate in those big jumps. Individual investors who buy into an IPO after the shares are public pay a premium, and typically see far smaller gains.
Nearly a third are active traders
Almost a third of the investors who bought Fitbit stock in its first few days on the market have already sold some of their shares, and 1 in 5 investors who bought the stock have already sold all of it. While this short-term trade may have proven profitable, people who trade more typically make less money, because they pay transaction fees for all those trades, and because, for most people, trying to time the market is a losing game.
So how did these tech-loving, IPO-hungry traders do when they bet on Fitbit? SigFig users who bought FIT paid, on average, $34.38 for it. Investors who bought at that price and sold by June 26 would have seen at least some gains. Those who bought at that price and sold on June 29 would have taken a small loss. Anyone who bought at that price and is still holding the stock is, at the moment, sitting on about a 16% gain: not bad, but far from the 50% jump trumpeted in the headlines on the stock’s first day.
IPOs get a lot of attention, and they can be very tempting for investors. Particularly when it is a company that you are familiar with from your everyday life, it is all too easy to feel confident that you know enough to know there are gains ahead. However, the largest profits in an IPO have been made before the opening bell rings. Individual investors should be cautious, and patient, when buying into brand-new stocks.
The last few months have been uncertain times for U.S. investors. After years of marching relentlessly higher, U.S. equity market growth has pared to a modest 3-4% since the end of 2014. In spite of the modest recent performance of US equities, many investors feel that many asset classes are “expensive.”Investors have many questions: has the U.S. stock market peaked? When will the central bank begin to increase interest rates? What are the prospects for emerging and developed markets? We will discuss these questions, and their implications, below.More than anything, investors are probably wondering what they should do. We strongly believe that in times like these, investors need to stay the course, with a diversified portfolio that has the risk-appropriate mix of equities and bonds. The markets could be poised for a pullback — or for several more years of growth. Adjusting a portfolio in anticipation of future market movements usually underperforms a long-term strategic allocation held through market cycles.
For the U.S. stock market, mixed signals
Throughout the last several quarters, signs of a sustainable, healthy U.S. economy have been mixed, leaving investors with lots of questions about the future. Unemployment is still trending down, reaching 5.4% in April. However, continued slack (excess capacity) in the labor market has left wages stagnant throughout the recovery, with few signs of future increases. Inflation remains below 2%, and company profits, which had reached all-time highs in 2013, abated slightly in 2014.These signals have led U.S. equities in a mostly sideways trajectory for the last several months, with little clarity promised on the immediate horizon. Though U.S. stock market indices have hit all-time record highs, there aren’t major structural issues in the economy that should derail continued stock market increases.(S&P 500 performance for the 12 months ending May 19, 2015.)
Timing uncertainty over interest rate hikes
Fixed income markets remain high as central banks around the world keep interest rates at historic lows. The Federal Reserve will eventually bump their benchmark lending rate up, pushing bond values down. However, the timing of the rate increase remains uncertain. Though Fed watchers think the central bank will nudge their benchmark rates higher as early as September, the last two quarters produced annualized GDP growth of just 1.2%. Perhaps this tentative performance may lead the Fed to postpone their rate hike.
Continued growth for developed markets
In contrast to the United States, developed markets have performed well over the last six months, as major central banks around the world initiated monetary easing policies and international economies emerged from recession. Debt concerns among many southern European nations (Italy, Spain, and Portugal) receded, though Greece’s fate as part of the Eurozone remains uncertain. Even with global political issues weighing on markets (e.g., Ukraine-Russia border skirmishes and Iranian nuclear negotiations), prospects for continued growth among international economies appears strong.(12-month performance chart of EFA, an index fund tracking the MSCI EAFE Index)
Emerging markets uncertainty
Meanwhile, emerging markets have also bounced back from weaker showing in 2014, with help from an uptick in oil prices and interest rate reductions in China. Nonetheless, future growth is uncertain as global demand for oil and emerging economy exports fluctuates.
(12-month performance chart of EEM, an index fund tracking the MSCI Emerging Markets Index)
The importance of staying the course in a diversified portfolio
When there is uncertainty on the horizon, a balanced, well-diversified portfolio is what investors need, as it enables profit in upward markets and protection against downward movement.It makes good investing sense to avoid tactical market timing, because adjusting a portfolio in anticipation of future market movements usually underperforms a long-term strategic allocation held through market cycles from top to bottom and back. It’s better to hold a risk-appropriate portfolio for the long run than sit on the sidelines hoping to avoid an imminent crash, while the market continues a strong run.As always, it’s important for all investors to confirm regularly that their portfolio allocation matches their risk tolerance, enabling them to ride fluctuations that affect any specific asset class.