A favorite (and costly) pastime of investors is to invest in assets that have recently done well. This happens in good times as investors seek better returns, and they happen in bad times as low-yielding investments such as cash are more attractive than money-losing stocks. In other words, investors chase returns.
By investing in what just did well, investors are systematically buying after they witness gains elsewhere and selling after their assets experience loss. Chasing returns can feel very good at the time but comes with a real financial cost. Dalbar, Inc. estimates that equity investors underperformed the S&P 500 by roughly 6% per year over the last 20 years1 due to the timing of buying and selling.
Why We Chase Returns
There are two primary reasons it feels right to buy after we witness gains and sell after experiencing losses:
Normal, But Not Beneficial
It is completely normal to invest in things we expect to go up and avoid assets we expect will go down. In fact, any rational person would do that as part of their investment strategy. But the problem is that markets move quickly and often surprisingly. Narratives are wonderful and can be quite accurate in hindsight. They can even increase our confidence in a certain viewpoint, but narratives offer no predictive ability in future outcomes.
This is why I advise you to remain disciplined to your plan and stay the course. I recognize this is not easy; temptations abound that are pleasing to our mind and feelings. But that is why you have me. Together, we can be aware of common investment pitfalls and ensure that all investment decisions are well-thought and in line with your stated objectives.
©2022 The Behavioral Finance Network. Used with permission.
Investing involves risk and you may incur a profit or a loss regardless of strategy selected. Past performance is no guarantee of future results. Prior to making an investment decision, please consult with your financial advisor about your individual situation. Raymond James is not affiliated with The Behavioral Finance Network.
