Proponents of Social Security privatization say that the average investor will do better investing the money that goes to Social Security taxes in the stock market. The chart above, which is from Business Insider, shows the problem with this.
It is true enough that, over a long period of time, stock market averages, such as the Russell 2000 or the Standard & Poor’s 500, do better than Treasury bonds. But most of us don’t do that.
We get overoptimistic when stock prices are going up and panic when stock prices are going down. So we buy high and sell low—the opposite of what a smart investor should do.
The following is from an exchange between Barry Rithotz, a financial adviser and blogger, and James O’Shaughessy, of O’Shaughessy Asset Management, on Bloomberg Radio.
O’Shaughnessy: “Fidelity had done a study as to which accounts had done the best at Fidelity. And what they found was…”
Ritholtz: “They were dead.”
O’Shaughnessy: “…No, that’s close though! They were the accounts of people who forgot they had an account at Fidelity.”
via Business Insider.
Ritholtz told about some of his experiences in estate planning, where a family fought over inherited assets for 10 or 20 years, didn’t touch them in the meantime and found those 10 or 20 years were the best period of performance.
I’ve been fairly successful with my own savings and investments, because I know enough to realize that I can’t outsmart the market. In my working years, I had a plan for investing so much a month in Vanguard and T. Rowe Price mutual funds, mainly funds that mirror stock market indexes.
I stuck to plan regardless of what the stock market did. In retirement, I have plan to cash in so many shares a month, regardless of what the market does.
My buying plan gave me the benefit of dollar cost averaging. Because I invested the same amount each month, I got more shares when the stock market was down, and so the average price I paid was less than the average price of a share over that period of time.
Of course if I had drawn down a specific amount of money each month when I retired, rather than a certain number of shares, dollar cost averaging would have worked against me.
I chose Vanguard and T. Rowe Price because they are conservatively managed funds (unlike Fidelity). They are no-load funds, meaning they don’t charge sales commissions, and they charge a minimum percentage for managing the funds.
The buy and hold strategy is a good plan for well-managed mutual funds. I don’t think it works so well with individual stocks. I can remember when employees of Kodak and Xerox invested their savings in their company’s stocks. No individual company does well forever.
As an old stockbroker once said to me when I was reporting on business, “If you buy good stocks, and never sell, you’ll go broke.”
If you’re going to invest in an individual stock, you should have some criterion, such as a price-earnings ratio, as to when to sell, and stick to that plan regardless of how you feel. And you should have a cash reserve in a safe investment, such an insured bank account or Treasury.
I have to say the fact that I am in a position to make these kinds of decisions is due more to good luck than good management. I know people just as smart and hardworking as me, or more so, who are struggling just to break even. I know I am one of the fortunate few. I don’t feel guilty about this, but neither do I claim superior merit.
LINK
Forgetful Investors Performed Best by Miles Udland for Business Insider.
Tags: Investment, Mutual Funds, Retirement Savings, Stock Market, stock prices
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