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The Risks of Reacting to Recent News

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Written by: Steve Lowrie | Lowrie Financial 

For all the tea in China or oil in Iraq, there’s another factor that remains equally relevant to your financial success: your own resolve to create and remain true to a personalized investment plan in the face of never-ending storms of “breaking news” at home and abroad.

The Weather vs. the Climate

Dimensional Fund Advisor’s Australian Vice President, Jim Parker recently published an article, “Weather vs. Climate”, in which he compares short-term versus long-term investing to reacting to the weather, versus preparing for the climate:

Notice how TV news bulletins put finance next to the weather report? In each, talking heads point at charts and intone about intraday events that are quickly forgotten. Meanwhile, the long-term wealth building story gets overlooked. Many investors feel that they are not properly informed about the financial world unless they have checked daily, or even hourly, on how the Dow, FTSE, or Nikkei have moved in the intervening period.

Parker suggests that reacting to breaking news is like changing your life’s plans every time the wind shifts. Instead, you are best served by building your portfolio the same way you might stock up on ski coats and sweaters if you live in Toronto or additional swimwear if you are a Florida resident. Daily weather reports in any region may vary widely, but the general climate is your best source for long-term planning – for your wardrobe as well as in your investing.

Investor, Know Thyself 

While few would argue with the logic of this analogy, there is still considerable evidence that most investors are unable to actually adhere to a reasonable long-term outlook in practice.

Instead, we succumb to behavioral traits such as recency, growing disproportionally despondent during gloomy times or unrealistically giddy when things are looking up. Losing our sense of proportion, we find ourselves unable to differentiate between transitory trends versus permanent conditions. We then make poorly timed decisions, jettisoning existing plans and chasing new ones because we cannot see past tomorrow’s forecast.

The antidote to the challenge is to arm yourself with two lines of defense: (1) the big-picture evidence, and (2) an advisor who has pledged to remind you of that evidence whenever you may otherwise lose your resolve.

Armed With the Evidence 

Whenever we are wondering whether a piece of financial news represents the weather or the climate in our capital markets, decades of evidence can help us decide. For example, consider this illustration depicting a number of global crises from 1970–2013 – the weather – versus the long-term market growth – the climate – during the same period. Investors who lost their resolve and tried to buy and sell according to the crisis du jourwere far less likely to capture all that the period had to offer, while incurring extra trading costs along the way.

Strengthened by the Evidence-Based Advisor

Despite your best intentions and greatest resolve, there will still be times when breaking financial news is particularly pervasive, and you find yourself wondering: Maybe this time, it’s different. A single misstep during these critical periods can cause considerable, lasting damage to your portfolio; these greatest moments of doubt tend to occur during alarming crises or exuberant bull runs, when the costs from trying to flee or chase the herd are stacked sharply against you.

Throughout the years, and especially when you are most likely to question your own resolve, the counsel of an evidence-based advisor can be invaluable in helping you look past the current conditions and consider the climate. That’s the best way we know of for weathering the markets’ inevitable storms.

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