Diversification: The power of winning by not losing

Crosby_2015Dr. Daniel Crosby, Executive Director, The Center for Outcomes & Founder, Nocturne Capital 

The image is indelibly etched in the mind of baseball fans everywhere. In 1988, an injury-hobbled Kirk Gibson, sick with a stomach virus to boot, limp-running around second base and pumping his fist. Without a doubt, Gibby’s homerun is one of the most memorable in baseball history, setting up the Dodgers for an improbable Game One “W” and eventual World Series win. But in remembering the heroics of the moment, we tend to forget all that came before.

The score at the time of Gibson’s unexpected plate appearance was 4 to 3 in favor of the Oakland Athletics, whose mulleted (and we now know, steroid-fueled) superstar Jose Canseco had hit a grand slam in the first inning. Canseco had an outstanding year in 1988, hitting .307 with 42 homeruns, 124 RBIs and, eye-popping by today’s standards, 40 stolen bases. Loading the bases in front of Canseco was massively risky as was throwing him the hanging slider that he eventually parked over the center field fence. But riskier still was sending Gibson to bat sick with the flu and hobbled by injuries sustained in the NLCS. That we don’t perceive it as risky is an example of what psychologists call “counterfactual thinking.” It turned out in the Dodgers favor, so Tommy Lasorda is viewed as a strategic genius. But had it not, and simple statistics tell us that getting a hit is never in even the best hitter’s favor, Lasorda would have been a goat.

Just as we laud improbable and memorable athletic achievements without adequately accounting for risk and counterfactuals, we do likewise with large and singular financial events. Paulson’s shorting of subprime mortgage products. Soros shorting $10 billion in currency. These events are so large, so memorable and worked out so favorably that we ascribe to them a level of prescience that may not actually correspond with the expected level of risk-adjusted return. A friend of mine once joked that, “every man thinks he is ten sit-ups away from being Brad Pitt.” Having observed significant overconfidence among both professionals and novice traders alike, I might similarly assert that “every stock market enthusiast thinks that (s)he is one trade away from being George Soros.” The good fun we can have talking about, “The Greatest Trade of All Time” notwithstanding, most real wealth is accumulated by not losing rather than winning in spectacular fashion.

Diversification.Power of Winning by not Losing

The danger in taking excessively risky bets with the hope of a spectacular win is best illustrated by what is formally known as variance drain. Variance drain is the difference between mean return and compound return over a period of time due to the variability of periodic returns. The greater the variability from peak to trough, the more the expected returns will deviate negatively. Confused?

Say you invest $100,000 each in two products that both average ten percent returns per year, one with great volatility and the other with managed volatility. The managed volatility money rises 10% for each of two years, yielding a final result of $121,000. The more volatile investment returns -20% in year one and a whopping 40% in year two, also resulting in a similar 10% average yearly gain. The good news is that you can brag to your golf buddies about having achieved a 40% return – you are the Kirk Gibson of the market! The bad news, however, is that your investment will sit at a mere $112,000, fully $9,000 less than your investment in the less volatile investment since your gains compounded off lower lows.

A second, behavioral implication of volatile holdings is that the ride is harder to bear for loss-averse investors (hint: that means you and everyone you know). As volatility increases, so too does the chance of a paper loss which is likely to decrease holding periods and increase trading behavior, both of which are correlated with decreased returns. Baseball fans know the frustration of watching their favorite player “swing for the fences”, trying to end the game with a single stroke of the bat, when a single would do. Warren Buffett’s first rule of investing is to never lose money. His second rule? Never forget the first rule. The Oracle of Omaha understands both the financial and behavioral ruin that come from taking oversized risk, and more importantly, the power of winning by not losing.

The Center for Outcomes, powered by Brinker Capital, has prepared a system to help advisors employ the value of behavioral alpha across all aspects of their work – from business development to client service and retention. To learn more about The Center for Outcomes and Brinker Capital, call us at 800-333-4573.

The views expressed are those of Brinker Capital and are not intended as investment advice or recommendation. For informational purposes only. Brinker Capital, Inc., a Registered Investment Advisor.

 

Synthesizing happiness

Crosby_2015Dr. Daniel Crosby, Executive Director, The Center for Outcomes & Founder, Nocturne Capital

On Wednesday, November 9, approximately half of Americans will wake up disappointed. Regardless of which candidate prevails on Election Day, roughly fifty percent of the people that she or he will eventually lead will have voted against them. Those whose preferences were not realized will likely begin a new offensive; painting a dystopian picture of the world to come with President X at the helm. Similar to what John Coyne mentioned on Monday. Markets will crash. Businesses will fail. Wars will rage. The historical precedent is that all of this and more will be the new rallying cry of the vanquished party and it’s easy to imagine that it will only be exacerbated by the ugliness and division that have characterized this contest.

But there is another, more powerful precedent that will have a far greater impact on financial markets than who wins or loses: it is our tendency toward resiliency that exceeds our own expectations.

Imagine I asked you to consider your ability to function in the face of the unthinkable – the passing of a child or partner, a debilitating illness, the loss of a job. Odds are, you would describe yourself as helpless, heartbroken and unable to go on. And while all of the scenarios I’ve just put forth are truly tragic, research suggests that our ability to cope with disappointment and loss are greater than we realize until we are thrust into a moment of trial.

To demonstrate this, I’d like for you to consider two groups that seemingly have little in common – paraplegics and lottery winners. If I asked you whether you would be happier one year out from winning the lottery as Option A and becoming disabled as Option B, you would likely suggest that I was in need of a psychologist rather than being trained as a psychologist. Obviously, we would all hypothesize that one year after the life changing event, lottery winners would be much happier and paraplegics would be much sadder, right? But this is simply not the case.

One year after their respective events, it makes little difference whether you are riding in a Bentley or a wheelchair – happiness levels remain relatively static. So, why is this? We tend to overpredict the impact of external events on our happiness. One year later, paraplegics have found out their accidents were not as catastrophic as they may have feared and have coped accordingly. Similarly, lottery winners have found out that having money brings with it a variety of complications. No amount of spending can take away some of the tough things life throws at each and every one of us. As the saying goes, “wherever you go, there you are.” In much the same way, we tend to project forward to a hypothesized happier time, when we have more money in the bank or are making a bigger salary. The fact of the matter is, when that day arrives, we are unlikely to recognize it and will simply project forward once again, hoping in vain that something outside of ourselves will come and make it all better. Our dreams and our nightmares are never quite as likely as we might assume in the moment and our ability to cope with difficulty as it arrives is far greater than we realize before being tested.

I’m not suggesting that the coming years will be easy, far from it. Humanity’s default setting seems to include plenty of divisiveness and struggle right alongside the moments of altruism. I’m simply suggesting that whatever comes, we, and the institutions that support us, are more capable of coping than we may now realize. Always pithy in his perspective, Warren Buffett said, “In the 20th century, the United States endured two world wars and other traumatic and expensive military conflicts; the Depression, a dozen or so recessions and financial panics, oil shocks, a flu epidemic, and the resignation of a disgraced president. Yet the Dow rose from 66 to 11,497.”

The future may be in doubt but our resolve is not. It has never paid to bet against America and I wouldn’t start now, no matter who is at the helm.

The views expressed are those of Brinker Capital and are not intended as investment advice or recommendation. For informational purposes only. Brinker Capital, Inc., a Registered Investment Advisor.

Another Day, Another Panic. Time To Get To Work

Crosby_2015Dr. Daniel Crosby, Executive Director, The Center for Outcomes & Founder, Nocturne Capital

Earlier this year it was trouble in China, today brings unrest in the United Kingdom, and you can bet that we won’t make it through the rest of this (or any other) year without volatility, uncertainty and worry. At times like this, advisors can become frustrated that the messages of patience and discipline that they teach their clients can be so roundly forgotten. But although it may be natural to despair, financial advisors would do well to remember that it is times like these for which clients enlist their services. Times of fear. Times of uncertainty. Times when they are very likely to do irreparable harm to their portfolios.

The sad fact about human nature is that knowledge counts for very little when we need it most. Dan Ariely has shown that while almost any adult can expound the basics of safe sex, knowledge tends to be overridden by emotion in a moment of passion. Likewise, dieters fail not because they cannot discern which foods are healthy and which are not, but because a doughnut is more soothing than a celery stick on a tough day. And so it goes with the clients of financial advisors who have worked hard to educate their clients about the fundaments of diversification, consistency and perseverance. Your clients likely know exactly what they should be doing, but in a moment like this, they need you to be at your persuasive best to convince them to follow rules they already know to be true.

The Knowing-Doing Gap

My route home from work typically takes me over a winding, hilly pass that is the perfect way to decompress after a long day in the office. Like most of us, I usually drive home more or less unconsciously, but I was recently broken from my trance by a tanker spill that obscured all four lanes of traffic. Searching for a new route, I found myself by the nearest hospital, the largest in the area and an institution with a fine track record.

Passing now between the two main buildings and the monorail that connects them, I saw something most unexpected. There, on a nearby lot, were 13 medical professionals in scrubs – smoking. Doctors and nurses! People who would, upon extinguishing their cigarettes, return to the building and plead with their sick patients to stop smoking. I can say with near-certainty that every one of those 13 professionals knew better and yet they couldn’t help themselves. The official name for this phenomenon is the “knowing-doing gap”, and its effects are powerful and pervasive.

James Choi of Yale found that only 4% of people who wanted to save more actually ended up increasing their savings rates. This sad number was made only slightly less pitiful when would-be-savers made a written plan; 14% were then able to stick with the program. Similarly disheartening is that 30% of medical prescriptions go entirely unfilled and of those that are filled, just over half are taken according to their dosage. In other words, among people who proactively seek out a doctor’s medical advice, most of them do not take it. How then can we as advisors ensure that clients are not only receiving good advice but that they are doing so in a manner that will persuade them to follow the received wisdom?

The Four Ps of Influential Communication

At The Center for Outcomes, we believe in the power of financial advice. We have frequently cited the work of organizations as diverse as Aon Hewitt, Morningstar, Envestnet and Vanguard—all of whom have found that clients that work with a financial advisor handily outperform those who do not. But if good financial advice is capable of adding great value, the persuasive powers of an advisor serve as the ceiling for that value. It is with this in mind that we have created our Persuasive Communication Model. Advisors who attend our two-day seminar receive extensive training in the theory and application of the model, so what follows here is a very brief introduction that lacks the appropriate background. Nevertheless, it is our hope that the skeleton of this model will provide a useful template for you as you have tough conversations with your clients. The four Ps are:

  • Purpose
  • Proof
  • People
  • Process

Purpose – Leading with “why?”

It is human nature to look for and create meaning, and we are far more compelled to act (or not act, in this case) when we understand the reasons behind the behavior. Practically speaking, this means reminding clients of their values and the goals they are trying to meet, both of which would be disrupted by acting in haste.

  • Research says: Karlan, et al. (2010) found that simply reminding people of their previous commitment to act in a certain way increased compliance by 16%.
  • Sample dialogue: “Mr. Smith, you engaged me to help you send your two daughters to college and to retire comfortably with your partner, so I’d like to frame my comments today in terms of how impulsive action might negatively impact your stated goals.”

Proof – Showing expertise

It is understandable that in times of unrest, people want to know that they are being shepherded by a knowledgeable guide. Having now framed the conversation in terms of the client’s values, it is time to show that you are a subject matter expert.

  • Research says: In his excellent book, “Your Money and Your Brain”, Jason Zweig points out that the part of the brain associated with critical thinking actually goes to sleep when someone is listening to someone they perceive to be a financial expert. You quite literally give your clients peace of mind.
  • Sample dialogue: “Your desire to get conservative is understandable from an emotional perspective in light of the recent upheaval. Unfortunately, it’s not consistent with best practices around building wealth. In a study aptly titled, ‘Trading is Hazardous to Your Wealth’, Drs. Terrance Odean and Brad Barber found that the more active someone was in entering and exiting the market, the worse their outcomes tended to be.”

People – Peer pressure for good

As financial professionals, we have a deep understanding of the negative impact of “herding” or the tendency to let the crowd influence our investment decisions. What is less appreciate is that social proof (or peer pressure if you like) is actually a powerful tool in our efforts to influence behavior.

  • Research says: Online shoppers are 63% more likely to make a purchase if it has received positive reviews from their peers.
  • Sample dialogue: Social proof can be demonstrated at the institutional, individual expert, peer and personal level. Dialogue here might draw on research from a vaunted college or other institution, followed by the research of a well-known Nobel Prize winner and concluded with a personal testimonial of why you think the proposed action is best.

Process – Guide, don’t overwhelm

Having now explained the why, what and who of your approach, it is time to talk about how to proceed. Remember, your client is overwhelmed and fearful and the last thing they need is to have their life further complicated.

  • Research says: Fewer choices equal greater action in everything from grocery store samples to 401(k) options. Present two, equally positive options, thereby giving your client a stake in the process but without overwhelming them.
  • Sample dialogue: “As I hope you now see, taking drastic action is inconsistent with your financial goals and the research on best investment practices. That said, I want you to sleep well tonight. As I see it, there are two possible moves we could make. The first would be to do nothing at all, leaving your existing allocations intact and checking in with me as needed to remain calm. A second option would be to move a small percentage of your assets to a “Safety” bucket that would provide for you and your family for 2 years in the event of further volatility. This would allow you to have immediate peace of mind without unduly disrupting our well-thought-out process. What are your thoughts on these two options?”

The work that you do as a financial advisor has a meaningful impact on the lives of the people you serve, but you face an uphill battle. No matter how well-educated and knowledgeable your clients may be, instinctual behavioral urges push them to make poor decisions at precisely the time when they are the most damaging. By utilizing The Center for Outcomes Persuasive Communication Model, it is our hope that you will become even better at the part of your job that research suggests adds the most value – managing clients’ behavior. For a much deeper understanding of how this model can revolutionize your practice, please be in touch.

Sources:
http://www.theatlantic.com/health/archive/2012/09/the-289-billion-cost-of-medication-noncompliance-and-what-to-do-about-it/262222/

http://www.thinkadvisor.com/2016/02/01/why-clients-dont-take-your-advice?slreturn=1466788772&page=3

https://www.amazon.com/Your-Money-Brain-Science-Neuroeconomics/dp/0743276698

http://faculty.haas.berkeley.edu/odean/papers%20current%20versions/individual_investor_performance_final.pdf

https://www.searchenginejournal.com/the-power-of-social%C2%A0proof/21896/

The views expressed are those of Brinker Capital and are not intended as investment advice or recommendation. For informational purposes only. Holdings are subject to change. Brinker Capital, Inc., a Registered Investment Advisor.

Diversification: It’s Not Beauty and the Beast, but Still a Tale as Old as Time

Crosby_2015Dr. Daniel Crosby, Executive Director, The Center for Outcomes & Founder, Nocturne Capital

Hedge fund guru Cliff Asness calls it “the only free lunch in investing.” Toby Moskowitz calls it “the lowest hanging fruit in investing.” Dr. Brian Portnoy says that doing it “means always having to say you’re sorry.” We’re speaking, of course, of diversification.

Diversification, or the reduction of non-market risk by investing in a variety of assets, is one of the hallmarks of traditional approaches to investing. What is less appreciated, however, are the ways in which it makes emotional as well as economic sense not to have all of your eggs in one basket. As is so often the case, the poets, philosophers and aesthetes beat the mathematicians to understanding this basic tenet of emotional self-regulation. The Bible mentions the benefits of diversification as a risk management technique in Ecclesiastes, a book estimated to have been written roughly 935 BC. It reads:

But divide your investments among many places, for you do not know what risks might lie ahead. (Ecclesiastes 11:2)

The Talmud too references an early form of diversification, the prescription there being to split one’s assets into three parts—one third in business, another third in currency and the final third in real estate.

The most famous, and perhaps most eloquent, early mention of diversification is found in Shakespeare’s, The Merchant of Venice, where we read:

My ventures are not in one bottom trusted,

Nor to one place; nor is my whole estate

Upon the fortune of this present year:

Therefore my merchandise makes me not sad. (I.i.42-45)

It is interesting to note how these early mentions of diversification focus as much on human psychology as they do the economic benefits of diversification, for investing broadly is as much about managing fear and uncertainty as it is making money.

Don't put your eggs in one basketBrought to the forefront by Harry Markowitz in the 1950s, diversification across a number of asset classes reduced volatility and the impact of what is known as “variance drain.” Variance drain sounds heady, but in a nutshell, it refers to the detrimental effects of compounding wealth off of low lows when investing in a highly volatile manner. Even when arithmetic means are the same, the impact on accumulated wealth can be dramatic. (This is not the same as the more widely used annualized return numbers, as they account for variance drain, but for this illustration, we’ll look specifically at variance drain.)

Say you invest $100,000 each in two products that both average 10% returns per year, one with great volatility and the other with managed volatility. The managed volatility money rises 10% for each of two years, yielding a final result of $121,000. The more volatile investment returns -20% in year one and a whopping 40% in year two, also resulting in a similar 10% average yearly gain. The good news is that you can brag to your golf buddies about having achieved an average return of 40%—you are an investment wizard! The bad news, however, is that your investment will sit at a mere $112,000, fully $9,000 less than your investment in the less volatile investment since your gains compounded off of lower lows. (To account for this, the investment industry uses annualized returns, which account for variance drain, rather than average returns.)

Managing variance drain is important, but a second, more important benefit of diversification is that it constrains bad behavior. As we’ve said on many occasions, the average equity investor lags the returns of the equity market significantly. It is simply hard to overstate the wealth-destroying impact of volatility-borne irrationality. The behavioral implication of volatile holdings is that the ride is harder to bear for loss-averse investors (yes, that means you).

As volatility increases, so too does the chance of a paper loss, which is likely to decrease holding periods and increase trading behavior, both of which are correlated with decreased returns. Warren Buffett’s first rule of investing is to never lose money. His second rule? Never forget the first rule. The Oracle of Omaha understands both the financial and behavioral ruin that come from taking oversized risk, and more importantly, the power of winning by not losing.

DiversificationAt Brinker Capital, we follow a multi-asset class investing approach because we believe that broad diversification is humility in practice. As much as experts would like to convince you otherwise, the simple fact is that no one knows which asset classes will perform well at any given time and that diversification is the only logical response to such uncertainty. But far from being a lame concession to uncertainty, the power of a multi-asset class approach has the potential to deliver powerful results. Take, for example, the “Lost Decade” of the early aughts, thusly named because investors in large capitalization U.S. stocks (e.g., the S&P 500) would have realized losses of 1% per annum over that 10-year stretch. Ouch. Those who were evenly diversified across five asset classes (U.S. stocks, foreign stocks, commodities, real estate, and bonds), however, didn’t experience a lost decade at all, realizing a respectable annualized gain of 7.2% per year. Other years, the shoe is on the other foot. Over the seven years following the Great Recession, stocks have exploded upward while a diversified basket of assets has had more tepid growth. But the recent underperformance of a diversified basket of assets does nothing to change the wisdom of diversification; a principle that has been around for millennia and will serve investors well for centuries to come.

Diversification does not assure a profit or protection against loss. The views expressed are those of Brinker Capital and are not intended as investment advice or recommendation. For informational purposes only. Holdings are subject to change. Brinker Capital, a Registered Investment Advisor.

Stress Contagion, the DOL and You

Crosby_2015Dr. Daniel Crosby, Executive Director, The Center for Outcomes & Founder, Nocturne Capital

Yawn.

YAWN.

Yaaaaaawwwwwwn.

Are you yawning after reading this? I’m fighting back the urge myself after writing the word three times—what gives? The answer to this extreme suggestibility lies with what scientists call mirror neurons—neurons that fire when an action is being performed and when that same action is being observed. The original discovery of mirror neurons took place in a sleepy, somewhat overlooked research lab in Parma, Italy. Scientists there were studying the brains of macaque monkeys in an effort to understand how the brain organizes motor behavior. As Martin Lindstrom explains, the scientists quickly discovered some things that challenged their assumptions about how the brain works:

“They observed that the macaques’ pre-motor neurons would light up not just when the monkeys reached for that nut, but also when they saw other monkeys reaching for a nut.” (Buyology)

Whether an action was performed by the monkey or merely observed, the effect on the brain was identical.

Stranger still was what they observed one sweltering afternoon when a graduate student on the team entered the lab with an ice cream cone. One of the monkeys, still hooked up to the monitoring apparatus, was staring greedily at the frosty treat. As the student brought the ice cream closer for a lick, the macaque’s pre-motor region began lighting up the screen:

“It hadn’t moved its arm or taken a lick of ice cream; it wasn’t even holding anything at all. But simply by observing the student bringing the ice cream cone to his mouth, the monkey’s brain had mentally imitated the very same gesture.” (Buyology)

shutterstock_153551429Mirror neurons are the reason why you cry in a sad movie, cringe at the sight of someone else eating something gross, or close your eyes when the chainsaw-wielding local stumbles upon the unsuspecting group of college kids at the lake house. Mirror neurons are why “unboxing” videos exist (seriously, it’s a thing), because it’s nearly as fun to watch someone else open a new gaming system or expensive toy as it is to do it ourselves. To truly apply this learning, give your children a video of other children opening presents at their next birthday party and tell them Dr. Crosby told you it’s more or less the same thing!

At this point you as a financial advisor may be thinking, “this all makes sense” and simultaneously wondering, “what does this have to do with me and my work?” It has been my anecdotal experience that just as married couples tend to resemble one another over time, the clients of financial advisors tend to behave much like the advisors with whom they work.

There may be some self-selection at work here but even more powerful are the cues that clients take from their advisors with each interaction. If your office has CNBC on loop and is stockpiled with magazines devoted to the hot stocks du jour, don’t be surprised when clients lead with griping about performance instead of sticking to their plan. Likewise, if you telegraph panic and are prone to complaining about politics and capital markets, don’t be surprised when your own fears land on your doorstop in the form of hand-wringing clients.

shutterstock_108406256The DOL’s “conflicts of interest” rule was announced yesterday, and with that will come the questions and uncertainty inherent in any new piece of legislation. Bearing in mind the concept of stress contagion, I would encourage you to consider the ways in which your clients will look to you as a leader and follow your example when sifting through their own feelings about this legislation in general and your value to them in specific. Change, it would seem, is coming, but one of the core beliefs of The Center for Outcomes is that periods of disruption provide opportunities for differentiation for the truly prepared. Whatever changes may come, your value to your clients and your position as a leader are steadfast and must be positioned as such.

The views expressed are those of Brinker Capital and are not intended as investment advice or recommendation. For informational purposes only. Holdings are subject to change. Brinker Capital, Inc., a Registered Investment Advisor.

Personal Benchmark was Made for Days Like This

Crosby_2015Dr. Daniel Crosby, Executive Director, The Center for Outcomes

Chuck Widger and I released our New York Times bestselling book, Personal Benchmark: Integrating Behavioral Finance and Investment Management, on October 20, 2014. Although the book was published in 2014, the writing process began in 2013, and Chuck’s original idea for a goals-based investing system is much older still. Both 2013 and 2014 were great years to be invested, with the S&P 500 returning 32.39% and 13.69% respectively. But although Personal Benchmark was crafted in a time of prosperity it was created with an eye to days just like today.

What is needed during times of fear is an embedded solution that helps clients say “no” to short-termism and say “yes” to something bigger.

As we wrote in the book, “While investor awareness and education can be powerful, the very nature of stressful events is such that rational thinking and self-reliance are at their nadir when fear is at its peak.”

Financial advisors do their clients a great service by educating them about investing best practices, but at times of volatility, logic is often thrown out the window. What is needed during times of fear is an embedded solution that helps clients say “no” to short-termism and say “yes” to something bigger.

When presented with an extremely complicated decision, it is human nature to seek simplicity, something psychologists refer to as “answering an easier question.” Rather than deeply consider and weight the relative importance of social, economic and foreign policy positions, voters tasked with choosing a Presidential candidate tend to instead answer, “Do I like this person?” Confronted with a complex dynamic system like the stock market, the easier question that we ask ourselves is, “Am I going to be OK?” Part of the power of the Personal Benchmark solution is that it helps clients answer this important question in the affirmative.

bookOur book discusses the human tendency to engage in “mental accounting”, the psychological partitioning of money into buckets and the corresponding change in attitudes toward that money depending on how it is accounted for. Page 154 features the story of Marty, a Philadelphia-area gang member who separated his money into “good” and “bad” piles depending on whether it was honestly or ill-gotten. Marty would tithe to his local church using the good money, but reserved his bad money for reinvestment in his criminal pursuits. Although we are hopefully all more civic-minded than Marty, we are no less likely to label our money and spend, invest and think about it relative to that label. One huge advantage of Personal Benchmark the solution is that it sets aside a dedicated “Safety” bucket for days just like today. When a client asks herself, “Will I be OK?” she can take comfort from the fact that her advisor has accounted for her short-term needs. Being comforted in the here-and-now, she will be less likely to put long-term capital appreciation needs at risk.

“While investor awareness and education can be powerful, the very nature of stressful events is such that rational thinking and self-reliance are at their nadir when fear is at its peak.”

Besides helping clients say “no” to short-termism, Personal Benchmark also helps advisors paint a more vivid, personalized picture of return needs. Page 203 of Personal Benchmark tells the story of Sir Isaac Newton, who lost a fortune by investing in what we now refer to as the “South Sea Bubble.” Newton invested some money, profited handsomely and eventually sold his shares in the South Sea Company. However, some of his friends continued to profit from their investment in South Sea shares and Newton was unable to sit idly by and watch people less gifted than he accrue such fantastic wealth. Goaded on by jealousy, he piled back in at the top and lost almost everything, saying after the fact, “I can calculate the movement of the stars, but not the madness of men.” Newton’s failure is a direct result of anchoring his benchmark to keeping up with his friends instead of attending to his own needs and appetite for risk. If Personal Benchmark’s Safety bucket is for providing comfort today, then the Accumulation bucket is a vehicle for rich conversations about the dreams of tomorrow. As clients simultaneously manage their short-term fears and identify their long-term goals, they are able to experience the best of a goals-based solution.

Personal Benchmark was created in a time of comfort and even complacency on the part of some investors, but was done so with a perfect knowledge that there would be days like this. At Brinker Capital we believe that an advisor’s greatest value is providing “behavioral alpha”, increasing returns and mitigating risk through the provision of sound counsel. Our goal is to be your partner in that sometimes-difficult journey and Personal Benchmark is evidence of that commitment.

The views expressed are those of Brinker Capital and are not intended as investment advice or recommendation. For informational purposes only. Holdings are subject to change. Brinker Capital, Inc., a Registered Investment Advisor.

10 Surefire Ways to Ruin Your Financial Future

Crosby_2015Dr. Daniel Crosby, Executive Director, The Center for Outcomes

It’s been a brutal day, a long week, and just an overall rough start to the year for the markets. To head into the weekend on, hopefully, a lighter note, I’m taking a tongue-in-check approach to the irrational investor mindset:

  1. Ignore the impact of your behavior – Over the last 20 years, the market has returned an average of 8.25% per annum, but the average investor has gotten just over 4% of that due to poor investment behavior. But making prudent decisions is much less interesting than say, trying to time a bottom in oil prices, so by all means allocate your efforts there.
  2. Trust your gut – A meta-analysis of rules-based approaches to making decisions found that following the rules beats or equals trusting your gut 94% of the time. You know what you should be doing (stay the course, dollar-cost average, etc…), but rules are boring, so just do what feels right with your money!
  3. Live for right now – The worst ever 25-year return for stocks (that included the Great Depression) was 5.9% annualized. But patiently planning over an investment lifetime is sooo tedious, so be sure to check your stocks every single day, where you will see red about 45% of the time.
  4. Do as much as possible – When things get scary it feels good to act, right? Right. Disregard the research that shows that the most active traders in Sweden underperformed their buy-and-hold counterparts by 4% a year. Instead, freak out and sell everything!
  5. Equate volatility with risk – Stocks outperform other asset classes by about 5% annualized after adjusting for volatility, but the ups and downs can be a lot to handle! Volatility also provides opportunities to buy once-expensive names at a bargain. But go ahead and ignore all of the upside to volatility and do something “safe”, like buying treasuries that don’t keep up with inflation and lose real dollars every year.
  6. Go it alone – Aon Hewitt, Morningstar and Vanguard all place the value of financial advice at anywhere from 2 to 3% per year in excess returns, but don’t let that stop you. With multiple 24/7 news channels and hysteria-inducing magazines available to you, who needs personalized advice?
  7. Try and beat the benchmark – You could argue that beating an impersonal market benchmark like the S&P 500 has nothing to do with your goals or risk tolerance, but that takes all the fun out of it! Just go watch “The Big Short” and pick up a few pointers there.
  8. Read every article that mentions “recession” – The U.S. economy has been in a recession nearly 20% of the time since 1928, meaning that the average investor will experience 10 to 15 recessions over their lifetime. But by all means, read every scary article that you can rather than accepting the historical trend that recessions are a common occurrence and haven’t materially impacted the long-term ability of the market to compound wealth.
  9. Tune in to dramatic forecasts – David Dreman found that roughly 1 in 170 analyst forecasts are within 5% of reality and Philip Tetlock’s examination of 82,000 “expert” predictions shows that they barely outperform flipping a coin. So, ignore the robust body of evidence that says no one can predict the future and pick a market prophet to follow.
  10. Ignore history – JP Morgan reports that the average intrayear drawdown over the past 35 years has been just over 14%, a number we haven’t yet reached in 2016. What’s more, the market has ended higher in 27 of those 35 years. Forget the fact that the horror of 1987’s “Black Monday” (a 22.61% single day drop in the Dow) actually ended in a positive year for stocks. Ignore historical suggestions that double-digit volatility is the norm and instead imagine vivid Doomsday scenarios that leave you in financial tatters.

The views expressed are those of Brinker Capital and are not intended as investment advice or recommendation. For informational purposes only. Holdings are subject to change. Brinker Capital, Inc., a Registered Investment Advisor.

Five Answers for the Voices in Your Head

Crosby_2015Dr. Daniel Crosby, Executive Director, The Center for Outcomes

Many investors are waking up this morning to the unsettling realization that trading was halted in China last night after another precipitous market drop. When paired with rumors of hydrogen bomb testing in North Korea, the recent acts of domestic terrorism and a long-in-the-tooth bull market, it can all be a little frightening and overwhelming.

It’s at a time like this that it’s best to temper the catastrophic voices in our head with some research-based truths about how financial markets work.

For each of the rash, fear-induced common thoughts below (in bold), we have countered with a dose of realism:

“It’s been a good run, but it’s time to get out.”
From 1926 to 1997, the worst market outcome at any one year was pretty scary, -43.3%; but consider how time changes the equation—the worst return of any 25-year period was 5.9% annualized. Take it from the Rolling Stones: “Time is on my side, yes it is.”

“I can’t just stand here!”
In his book, What Investors Really Want, behavioral economist Meir Statman cites research from Sweden showing that the heaviest traders lose 4% of their account value each year. Across 19 major stock exchanges, investors who made frequent changes trailed buy-and-hold investors by 1.5% a year. Your New Year’s resolution may be to be more active in 2016, but that shouldn’t apply to the market.

“If I time this just right…”
As Ben Carlson relates in A Wealth of Common Sense, “A study performed by the Federal Reserve…looked at mutual fund inflows and outflows over nearly 30 years from 1984 to 2012. Predictably, they found that most investors poured money into the markets after large gains and pulled money out after sustaining losses—a buy high, sell low debacle of a strategy.” Everyone knows to buy low and sell high, but very few put it into practice. Will you?

“I don’t want to bother my advisor.”
Vanguard’s Advisor’s Alpha study did an excellent job of quantifying the value added (in basis points) of many of the common activities performed by an advisor, and the results may surprise you. They found that the greatest value provided by an advisor was behavioral coaching, which added 150 bps per year, far greater than any other activity. At times like this is why investors have advisors so don’t be afraid to call them for advice and support.

“THIS IS THE END OF THE WORLD!”
Since 1928, the U.S. economy has been in recession about 20% of the time and has still managed to compound wealth at a dramatic clip. What’s more, we have never gone more than ten years at any time without at least one recession. Now, we are not currently in a recession, but you could expect between 10 and 15 in your lifetime. The sooner you can reconcile yourself to the inevitability of volatility, the faster you will be able to take advantage of all the good that markets do.

Brinker Capital understands that investing for the long-term can be daunting, especially during a time like this, but we are focused on providing investment solutions, like the Personal Benchmark program, that help investors manage the emotions of investing to achieve their unique financial goals.

For more of what not to do during times of market volatility, click here.

The views expressed are those of Brinker Capital and are not intended as investment advice or recommendation. For informational purposes only. Holdings are subject to change. Brinker Capital, Inc., a Registered Investment Advisor.