Fear and Greed

“Be fearful when others are greedy and greedy when others are fearful”
– Warren Buffett

You may be familiar with this Buffett quotation, but have you thought about what it really means? At WJ Interests we think about it a lot when positioning portfolios. In its simplest terms, it means buying when everyone else is selling and vice-versa. On March 9, 2009, the S&P 500 sunk to a new low of 666. On that date, we promise you, there was no news story or announcement that indicated the market was bottoming. In fact, all discussions revolved around the terrible economy and huge stock market declines. It was a very scary time. Guess what? It was one of the best times to buy stocks in history. Just a few months before the market bottom, Mr. Buffett invested in several companies like Bank of America and Goldman Sachs, and per some estimates, he has profited over $10 billion on these investments. That is truly putting money where your mouth is and being greedy at the right time.

We think most investors understand the idea of buying investments when they are cheap although few have the intestinal fortitude to act. The other side of the quotation “be fearful when others are greedy” is harder for investors to understand. Our experience has been it seems to manifest itself in some unusual ways, but we recognize it as greed nonetheless. Why does it matter? Greed leads to bad decisions and ultimately to inferior investment results.

How does greed manifest itself in investors? It usually comes in the form of investors comparing their portfolio performance to some index or manager. Here are some examples:

1. 1998 to 2000. Why is my portfolio underperforming not only the S&P 500, but especially the NASDAQ?
2. 2005 to 2007. My portfolio seems to be trailing the major indexes. What is wrong? Does it need to be repositioned?
3. 2016 to present. What is wrong with my portfolio? It is trailing some of my other managers and indexes? Does it need to be more aggressive.

In most cases, pooled investments like mutual funds and portfolios perform differently because the underlying investments are different. One would not expect Chinese and Indian stocks to perform the same as European stocks or US Bonds to perform the same as US Stocks. Many questions regarding performance differences can be answered by analyzing the differences in the underlying investments, but this does not usually explain away all investor’s concerns about performance differences.

Underlying most questions is the concern that a diversified portfolio is underperforming a stock market or index. Investors ask this question for many reasons, but one primary reason is certainly greed. They are seeing very strong returns in one stock market or index compared to their diversified portfolio of stocks, bonds and alternatives. They feel like they are missing out, which is the quintessential definition of greed (also popularly known as FOMO or Fear Of Missing Out). Ultimately, greed is driving investors to not appreciate the benefits of diversification.

As you may have noticed, examples 1 and 2 above did not end very well. Those that succumbed to greed in those environments ended up paying a very large price as the asset classes that had recently done the best were the worst performers when the music stopped.

We try to follow Mr. Buffet’s recommendations above when investing portfolios. We are currently in a period where greed is seeping into investors mindset. In this environment, diversified portfolios will underperform some individual stock markets. But, this environment won’t last forever and when it ends the fearful investor, diversified across asset classes, will be thankful.