HOFFMAN, WHITE & KAELBER FINANCIAL
SERVICES, LLC
Investment
managers & WEALTH Advisors
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How Greed Undermines Wealth
Have you
ever scrambled to chase a hot investment tip and found yourself late to the
party? Did this happen to you when the
tech bubble burst in 2000? Or when the
mini commodity bubble burst this past May?
Beyond your home, are you long residential real estate now?
Fear and
greed are two emotions strongly coloring the decisions of many investors. These two emotions are the main reasons why
people fall prey to the small investor theory – buying high and selling
low. Why does the average investor often
do the exact opposite of what he or she should be doing?
During the
late nineties on into early 2000, the stock markets were on fire. It wasn’t very hard to pick a stock that was rising,
splitting and then rising some more – especially in the technology sector. This phenomenon caused a lot of novice investors
to enter the markets. With visions of
easy money and great wealth, investors charged ahead. Everybody wanted to clean up. Their greed added further fuel to the fire
and sustained a growth cycle far beyond its natural life. Investors continued to invest until the
inevitable happened. The bubble burst. A tremendous amount of wealth was lost in a
very short period of time. Investors sat
back and could only blame their greed for their losses.
This period
went down in the history books as the era of “irrational exuberance” – the
infamous phrase that was uttered by then Fed chairman Greenspan in 1996 when
describing that the markets were greatly overvalued at the time. Do you know anyone who listened?
What makes
people invest when a particular market or a specific investment opportunity has
already experienced a significant run up?
And, what makes these same people sell after a significant correction
has already occurred? Conversely, why do
others feel compelled to stay with a poor investment rather than change
course? Is it because they deliberately choose
to lose money? Rather we might explain
it as “herd mentality,” absence of enough information, or a lack of
comprehension. The real answer lies
deeper than that. It lies in our
emotions and their power to overwhelm our reason while driving us to poor decisions.
As readers of our newsletter well know, wealth management is
the ultimate goal of all that we do at Hoffman, White and Kaelber. Yes, we promote our services; yet, you will
find that we always seek to present thought provoking topics that are relevant
to our wide audience.
In last
month’s newsletter, our Dr.
Just What Is Greed?
According
to Webster’s New World Dictionary greed is: “the EXCESSIVE desire for getting
or having something, especially wealth.”
If look up the word excessive, that same dictionary defines it as,
“characterized by excess; being too much or too great; immoderate, or
inordinate.” While these definitions
characterize the nature of greed it’s difficult to know when you cross the line
from enthusiasm to greedy. That’s always
a judgment call.
Greed in
the marketplace is not just a new phenomenon.
Have you heard of the Tulip Mania that swept through the
You can find
a great deal written about the role of fear in the stock markets. Greed is always thrown into the mix as the
other key motivator influencing behavior, but its workings are seldom discussed
in depth. We want to help you become
mindful of the insidious workings of greed and possibly save you from sizable
losses in your own investments.
Greed
implies selfishness that comes at the expense of others. In this case, you would do well to think of
this concept of “expense” not just to other people, but to other issues as
well. Is your portfolio over weighted in
an area where you are seeking super returns?
Do you fail to periodically take profits from your successes and
diversify your holdings? Are you so focused
on your investment performance that other pursuits are given short shrift? The theme that runs throughout these
questions is lopsidedness. Your life,
your energies and your investments become unbalanced. When this happens, like a drunk staggering
out of a bar, you are headed for a fall.
There are
some signs that you can look for to help you identify a destructive pattern as
it emerges. Perhaps I should say listen
for, because you identify them by learning to listen to your internal dialogue,
the mental conversations you have with yourself as you think. We’ll identify four keys in your thinking
that should alert you that your emotions, primarily your greed, are ruling your
logic and setting you up for disappointment. These four keys are listed below
as follows:
Frantic
Hope
Over
Complexity
Over
Simplicity
Sclerosis
Let’s look
at each of these keys in detail to gain a better understanding.
Frantic Hope
Listen to
yourself as you look over conditions in the world that influence markets, or
conditions within the markets themselves that can affect the value of your
holdings. When we find ourselves
desperate in our desire to achieve hoped for outcomes we have crossed the
line. When you are working a well
reasoned strategy there is no need to pursue a level of desperation that
earmarks a risky position. There is no
need to start by bargaining with God, or making promises to ourselves; and,
there is also no need to fly into a rage or a depression when things don’t work
out. When we are well balanced, we can
emerge hopeful about the effectiveness of our strategy without the emotional
intensity described above.
This state
of emotional arousal is apparent in the conversations that you have with
yourself and in the feelings that you have when thinking about your particular
position. Feelings are designed to move
us to action. When we stick with the
same plan in the face of raising emotional alarm bells, we are being ruled by
our greed and our position is likely to be highly unreasonable. When we work hard to discount contrary
opinions or avoid researching new sources of relevant data, we are frantically
hoping whether we realize it or not.
Listen to
the wisdom of your subconscious mind. Draw
back. Rethink your current course and
start over on a more reasoned path.
There is an old Chinese proverb that applies here, “No matter how far
you’ve walked down the wrong road, stop.”
If you are counting on one brilliant move to make your fortune, you’re
on that wrong road.
Over Complexity
Our plans
and strategies are built upon assumptions.
These assumptions can vary in their accuracy from unreasonable, or
ill-formed to spot on. Our assumptions
come from our perception of the way we think the world works, the lessons we’ve
drawn from our past experiences, and our basic temperaments. Pessimists tend to see the glass as half
empty and wait for the water level to drop off.
Optimists see the glass as half full and look for a bigger container as
they are sure that more water is coming.
The fact of the matter is that when we make assumptions, we are acting
on limited information. We assimilate
the facts that we know and we fill in the blanks with suppositions. Then we act on our beliefs. Obviously, there is the potential for a large
margin of error in these suppositions.
When we are
dealing with the markets we are trying to make accurate decisions (to buy,
sell, or hold) based on information that is less than complete. This is true for all investors, but it is
particularly true of those who “play” the markets part-time. When greed drives us, we begin to add more
assumptions to buttress our shaky logic.
Our assumptions become overly complex.
We often pay more attention to the facts that support the position we
want to take and ignore or dismiss information that doesn’t. We find ourselves so invested in a particular
choice that we cook the data. Our plans
can become illogical based on containing a large number of unchecked
assumptions. Success will come if and
when a large number of unknowns fall into place just as we had assumed. The rational mind might see these odds as
infinitesimally long, but the greedy mind convinces itself that the mental
house of cards that it has concocted will endure the forces of the marketplace.
If you find
yourself in a position where you are trying to justify a shaky strategy to
yourself, then detail your plan on paper.
Identify the facts that you’re using to create your case. Identify the assumptions you’re making. Recheck your facts. Validate your assumptions as best you
can. See how well your thinking holds up
to this scrutiny. You might even show
your plan to a friend or advisor to obtain a dispassionate assessment of your
thinking in this particular case.
Remember, greed causes an imbalance in your logic as well as in your
focus.
Over Simplicity
The human
mind is often unsettled by ambiguity.
When we don’t understand something important to ourselves and our
security, we look for an explanation that makes the world seem predictable
again. The history of humanity is rife
with examples of people acting on superstitions, or engaging in rituals
designed to appease the gods or the forces of nature that seem to be out of
whack. The vestiges of this thinking
still linger in our modern, rational brains.
We are driven to find explanatory causes and often, the simpler the
better. A simple explanation restores
our tenuous feelings that we are back in control of our lives and this is
highly reassuring.
It is wise
to recognize that market forces are extremely complex within today’s global
economy. With the rise of technology and
the explosion of data we are inundated with more information than most people
can process. One common tendency is to
simplify it. And when we do, we leave
far too much to chance. This leads me to
a story from my past:
In an
earlier time before I began to surround myself with brilliant financial people,
I had a particularly weak investment advisor who was quite serious when recommending
that I buy stocks in casket companies.
His rationale was that, as the baby boomers aged, there would be boom in
the market for caskets. On the surface I
could see his reasoning, but as an investment strategy for building wealth I
recognized that he was thinking too superficially. It’s my contention that many investors
similarly adopt superficial strategies out of greed.
Think of
the people who paid one, two, or even two hundred and fifty dollars a share in the
late 1990s for the stock of tech companies that hadn’t yet turned a
profit. This is where herd mentality
fits in. We invest based on a magazine
writer’s hot tips. We can’t abide the
idea that others have made money on a stock that’s already risen significantly
in value and so we jump on the bandwagon to get our share. There is little research, thought or work
that we put into or efforts before we commit our funds. Winning market strategies are based on
information and analysis of a wide range of data and they are continuously
evolving as new facts emerge. Oh, there
are examples of dumb luck and fortuitous picks in a given instance, but this is
a sucker’s bet and your odds for beating the house in Vegas would be a safer
choice. It is greed that drives us to
make these impulsive decisions to climb aboard a winner when the race is almost
over. Since emotion has driven our
choice to get onboard, logic seldom steps in and tells us when to get off until
it is too late.
Sclerosis
When
physicians speak of arterial sclerosis they are talking about a hardening of
the arteries. The walls of those
arteries harden, become less flexible and have difficulty responding to changes
in blood flow. Over time they can become
so brittle they break. People can also
become sclerotic in their thinking. They
can become rigid and close-minded. They
fail to adjust to changing conditions or even acknowledge that conditions are
changing. They keep thinking the same way
because that thinking worked for them in the past. Yesterday’s successful strategies worked
yesterday because they were attuned to the forces operating at that time and in
that place. Most have a limited shelf-life. Yes, in finance, history has an uncanny way
of repeating itself. However, economies
cycle from peak to trough and back and this often creates vastly changing
conditions.
In the
later stages of an economic expansion, investment themes and strategies undergo
more rapid change. The shelf-life of a
successful strategy can move in and out of favor quite easily. Mental flexibility becomes the key to making
good decisions today. Yet it can be as
difficult for us to abandon old strategies as it is for us to abandon old
friends. In the eighties, American
businesses learned that working an obsolete process harder or more efficiently
only delayed the inevitable. The same
wisdom holds true for our investment strategies. Some people hold on to losing investments
because they don’t want to acknowledge or realize their loss. Or some people will stick with outdated
advice because things have gone well so far and they don’t want to hear that
the landscape has changed.
The point
here is that these people are being greedy in not wanting to take the risk of
changing course. Logic has little to do
with the decision to stay put. It’s an
emotional decision and it is based on the feeling that they can recover more if
they stay the same. These are the people
who will continue to work a played out mine shaft because there was once gold
there and they are loath to walk away if there could be more. They ignore the data. Their wants overwhelm their reason. Their greed is out of control.
Concluding Thoughts
A good plan
has a definition of reasonable goals, recognition of your means and a balanced
approach for success built into it.
There should be benchmarks or milestones that let you know when you are
“on target”. With greed, benchmarks and
milestones have no meaning. We are
constantly seeking more. There is no
such thing as enough and so we are constantly unfulfilled. We can’t win because there is never
enough.
Listen to
yourself as you think about your investments and ask yourself the following
questions. Are you ruled by logic or
emotions? Are you making so many
assumptions that you perceptions are skewed?
Are you running on hope as opposed to data? Are you impulsively following “hot tips”, or chasing
stocks that have already made a significant run or investing heavily in highly
speculative investments hoping to strike it rich?
Greed is a
destructive emotional force. It leads to
poor choices and unbalanced priorities.
Step back and deal with the problems that have fostered your greed in
appropriate ways. Don’t let that greed
cause you to squander good money on bad investments. Seek advice and input from others. Do the mental work required to make good
decisions. Nothing worth having comes easily.
Remember,
greed is excessive desire for getting or having something, most notably wealth. It is not the mere desire for getting or
having wealth that we should all have.
Hoffman, White & Kaelber Financial Services Investment
Performance Update
August revealed some very interesting data that only seemed
to keep us on the edge of our seats, yearning for more information. Nevertheless, I believe that we’re trending
toward the belief that the
It is pretty clear that demand for new and existing housing
is slowing down in mildly dramatic fashion.
The numbers don’t look good going forward and all of the major
Proponents of the “Fed Model” proclaim that the
For the month ended August 31, 2006, our
one-month performance is down 0.54%, our one-year return is up 6.26%, our
three-year return is up 5.84% and our average annualized return since inception
is up 7.79%. Our since inception risk
measures remain very conservative at +/- 5.88% (+/- 6.35% and +/- 5.92% for
one-year and three-year measures, respectively) and our Sharpe Ratio (reward
for risk taken), while lower, on a comparative basis, is still very respectable
at 0.90 (0.27 and 0.52 for the last 12 and 36 month periods, respectively).
For more
performance information, please see our web site for details.
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