JOHANNESBURG – It is a question I grapple with a lot as a financial journalist: How do you write a market report without creating unnecessary fear and spooking investors into making rash decisions that are likely to have a detrimental effect on their long-term investment goals?
A sell-off of 2% or 3% is newsworthy and should a downward trend turn into an official correction, chances are it will make headlines.
Financial news consumers are bombarded with sentiments around various trends and in the case of market commentary, it often involves opinions about short-term movements. And while there is definitely a place for market commentary, long-term investors should be cautious not to get so involved with daily news events, that they lose sight of their long-term investment goals.
Speaking at a recent briefing, Peter Dempsey, deputy CEO of the Association for Savings and Investment South Africa (Asisa), contemplated exactly this question: Should you listen to market commentators?
Dempsey says some commentators may have suggested that the equity market is overheated, that the price-earnings ratios of certain companies are at all-time highs and that investors should be cautious.
Anyone who hears these things is susceptible to deciding to act in response, he says.
Should you listen to market commentary?
The issue of market commentary is not new, Dempsey says.
In his novel ‘Pudd’nhead Wilson’ published as far back as 1894, Mark Twain addressed the issue: “October. This is one of the peculiarly dangerous months to speculate in stocks. The others are July, January, September, April, November, May, March, June, December, August and February.”
The quote rose to prominence in October 1987 with the biggest market crash since 1929.
This suddenly led to an “October fear”.
Dempsey says while one can listen to commentators, it is more important to look at how you approach your finances. This should be done on a much more solid basis than just listening to market commentators.
Behavioural finance suggests that investors are subject to “herd instinct”.
When people hear others talk about how fantastic a certain fund manager is doing, they are inclined to also invest with the fund manager.
Dempsey says humans are very susceptible to behavioural influences and when markets are running as they have been, funds flow in.
The graphic below illustrates the perpetual cycle of common market behaviour.
Market participants buy on the uprise, often driven by greed and do not want to be left out.
But when markets start to fall people get scared and they sell because they are terrified that they will lose more money.
Dempsey says he would propose that investors should rather stick to a simple strategy.
They need to set financial goals, which will depend on their age. This could include planning to retire at 55 or 60, buying a holiday home or sending their children to private schools for example.
After setting these goals, investors have to put a plan together to reach the goals, implement it and repeat the cycle.
This will provide at least one defense mechanism against short-term decisions based on market volatility that could adversely affect long-term goals.
He suggests that a financial plan should preferably be drawn up by a financial advisor, should be expertly managed and adapted through various life stages:
· Creation and protection – This typically happens in their 20s and 30s when people start investing and take out risk cover, for example life and disability insurance.
· Building and protecting – In their 40s people grow their investments and assets and protect themselves and their families against tragedies such as death, disability and dread disease.
· Utilisation and preservation – Following retirement, investors need to ensure that their retirement savings will be sufficient to fund their lifestyle until they die.
“Therefore, if your financial plan requires exposure to the growth potential of equity markets, then you need to accept that equity investments are for the long-term and that markets will move up and down over the lifetime of your investment,” he says.
He advises against making emotional decisions when investing.
“Buying and selling decisions driven by greed and fear will ultimately result in loss.”