Fall Off the Wagon Day
“I can resist anything except temptation”
- Oscar Wilde
Not to be a downer, but a month from now, according to data from gyms and fast food joints, an overwhelming majority of us will have tossed our New Year's resolutions out the proverbial window. A researcher at the University of Bath in England estimates that only 9% of those making resolutions will keep them.
There's even a name for the second Saturday in February: Fall Off the Wagon Day.
I've previously highlighted the similarities between the discipline required to stay physically fit and that required for successful investing. There are very few world class money managers who are obese.
The problem is that we're hardwired to fail at staying in peak shape physically and fiscally. It's a sad fact that 69% of our adult population is overweight or obese. My guess is that the percentage of less than optimal investors is substantially higher.
We have a bias for the immediate, ingrained in us over millennia of trying to survive.
Most of the time, if faced with the choice of a reward now or in the future, there's nothing like the present. As has been said for centuries, a bird in the hand is worth two in the bush.
We mentally discount the value of a future reward. The longer the expected delay, naturally the greater the discount.
This can make sense on at least a few levels. First, there's no guarantee that the future will ever arrive. Eat dessert first, because you may not make it past the entree. Also, the sooner you go for something, the more time you’ll have to enjoy your just rewards.
Most relevant to us as investors, having money today versus in the future should be worth to us whatever we could earn on it between now and whatever that future date may be. If we expect to earn 10% on our capital over the next year, we would discount that amount by the future value of that capital. No reason to wait for $990 in a year if we can be handed $900 today.
Unfortunately, our internal discounting mechanism isn't that rational or accurate.
While almost everyone would choose $1000 tomorrow over $900 today, the relationship between present and future gratification breaks down as you move further out in time.
This is known as hyperbolic discounting. Theoretically, we should discount future rewards exponentially, consistently across time, yet countless studies, and even more real life examples, show that we don't.
Our natural tendency toward instant gratification may have worked well on the tundra many millennia ago, but today, more often than not, it leads to impulsivity and short-termism.
Because we discount future rewards too steeply we make errors in judgment. We eat things we shouldn’t. We chase trending investments that we shouldn't. Consequences, both good and bad, that are too far in the future get discounted too deeply. The over-discounting of the bad is what has created many investment opportunities for us, including picking up META (formerly Facebook) on the cheap not too long ago.
I have found that the best way to counteract this is via pre-commitment. You have to pre-set your intentions and the constraints necessary to fulfill them. To our daughters' chagrin, we keep no junk food in our house, and therefore have no temptation that we may or may not successfully resist.
When evaluating any potential investment, I always have a preset list of criteria that must be met. That way, regardless of how beguiling an investment may seem, if it doesn't make the cut I pass on it.
Creating a clearly defined process and then sticking to it is crucial. I set hard and fast rules to determine both your broader asset allocation guidelines and the specific investments that must fit within them. These must never be subject to whims, either our own or those of the market.
You must never be reactive. My process didn't change with 9/11 or COVID, nor has it changed with what has happened in Ukraine and Israel. These are very important events geopolitically, but less so in the context of long-term investing. I apply the same discipline, regardless of current headlines. A long-term perspective must prevail, whether buying stocks in a bear market or buying them (but far fewer) in a bull market.
The New Year may be shrinking in our rearview mirror, but it's just one in what will hopefully be a long series of them. Let's resolve to think and act rationally when it comes to our investments and our lives. If we set realistic objectives for ourselves, and never lose sight of our end goal, we have a pretty good shot of reaching it.
David Harris, CIMA
Does the present Chinese leadership outdo the US in long term thinking, David?