When In Doubt, Rebalance
Never has the word “patient” sparked such haste. On Wednesday the Federal Reserve released a statement saying it might start raising interest rates as early as June and … cue ominous music … it excised a promise from the statement that it would be “patient.”
Immediately the financial media rushed into paroxysms of analysis. Will rates certainly rise in June? Should borrowers lock in their mortgages now? Should we dump bonds? Short some stocks? Buy dollars?
Further, chairwoman Janet Yellen said, “Just because we removed the word ‘patient’ … doesn’t mean we’re going to be impatient.” Thanks for the clarification, Mrs. Chairwoman.
And in addition to the financial media madness, this week marked the beginning of the NCAA March Madness basketball tournament. As I was listening to the coaches and pundits opine on what it would take to win the tournament, it sounded much like chatter surrounding the Fed announcement: full of sound and fury, and signifying nothing.
But one tired sports cliché rang with new meaning for me in light of the financial fracas: “Focus on the fundamentals.” In times of volatility and change, I think many investors forget the fundamentals. I know I do, or at least I used to.
We are wired not to think long-term in times of stress. The parts of our brain responsible for planning and future-thinking are overwhelmed by the parts concerned with survival in the here and now.
And even little upsets can push us into Chicken Little mode. Just as highly-rated teams such as Iowa State University and Baylor losing in the first round sent ESPN into frenzy, so Yellen’s “impatient” remark fueled CNBC’s talking heads for hours.
What we should do at times like this is take a deep breath, take a step back and work on the fundamentals.
As it so happens, a third event occurred this month that plays into my finance fundamentals: Daylight savings time. Some of us use Spring Forward and Fall Back as a reminder to replace the batteries in our smoke and carbon monoxide detectors. I also use it as a reminder to rebalance my portfolio, a key fundamental.
I learned this lesson the hard way, and at an age when I already should have known to do it. When the dot.com bubble was booming I let my tech-heavy investments ride, even though intellectually I knew the smart move would be to rebalance.
Another bit of psychology (I write the “Mind Gains” investor psychology column for Personal Finance): we’re also wired to believe a streak will continue. And bouncing back to basketball, it’s referred to some as the “hot hand fallacy,” or the belief that today’s success will continue into the future. Fans believe a player who’s scored successive baskets will make the next basket, though statistically speaking, they are no more likely to sink that next shot.
So when the bubble burst, I took a bigger hit than I should have. It was around that time I started studying investor psychology, and began working to take emotions out of my investing decisions. I’m not wired like Warren Buffett, who admits he was born with abilities to invest unemotionally, logically and long term, so I have to use a series of cheats.
One of those is Daylight Savings Rebalancing.
I’ve always liked investing in real estate investment trusts (REITs) for their steady income and appreciation. And though it killed me to rebalance during the real estate boom years of the last decade, I did it. So in 2006 when my REITs were up more than 30%, I trimmed back. And when the crash came in 2007 and 2008 and my REITs plummeted, I replenished them, and then cashed in on the 30%-plus return in 2009 and the 25%-plus return in 2010.
So with the same meticulous methodology you used to fill in those brackets, especially in these volatile times when you may be hoping successful investments from last year will continue to soar, take your profits and rebalance your portfolio.
You probably won’t win your office NCAA pool, but you’ll more than make up for it with your long-term portfolio winnings.