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Happy Hour: Doing Nothing

April 21, 2017 by Jon

Most of the Peter Lynch stuff I’ve dug up recently are archived articles from pre-internet days. One of his better articles did make it online. His 1995 article titled Fear of Crashing was republished just last month.

The title says it all. There must have been some worry of a crash back in 1995 since Lynch decided to address it.

Of course, fears of a crash pop up on a regular basis. But it starts with doubt. Pundits make their annual claims why this is the year the bear market returns. If the stories seem plausible, it might sow seeds of doubt. Doubt can lead investors to try to avoid the next correction.

But that’s rarely what happens. In their attempt to avoid losses, they miss out on gains.

The best way to deal with this is to learn a little bit of market history, remember your time horizon, and not try to anticipate things that are unpredictable. Stick with what you can control.

Or as Lynch suggests – Do Nothing (emphasis mine):

Let me go on record with Lynch’s prediction: Another big correction is on the way. I’d bet the ranch on it, if I had a ranch. It may come this year, next year, or the year the Red Sox win the World Series (don’t hold your breath!); but sooner or later, it will happen. You read it here first.
…
Assuming you agree with my forecast, how can we prepare? Mostly by doing nothing.

This is where a market calamity is different from a meteorological calamity. Since we’ve learned to take action to protect ourselves from snowstorms and hurricanes, it’s only natural that we would try to prepare ourselves for corrections, even though this is one case where being prepared like a Boy Scout can be ruinous. Far more money has been lost by investors preparing for corrections or trying to anticipate corrections than has been lost in corrections themselves.

The first mistake is hedging the portfolio. Anticipating a drop in the market, the skittish investor begins to dabble in futures and options, the kind of investment that will make a profit when stocks decline. People think of this as correction insurance. It seems cheap at first, but the options expire every couple of months, and if stocks don’t go down on schedule, people have to buy more options to renew the policy. Suddenly, investing isn’t so simple. Investors can’t decide whether they’re rooting for stocks to falter, so their insurance will pay off, or for a rally, for the sake of the portfolio.

Hedging is a tricky business even the pros haven’t mastered—otherwise, why have so many hedge funds gone out of business in recent years? Hedge-fund managers have been sighted in unemployment lines.

The second and more prevalent mistake is the ritual known as lightening up. This time, our skittish investors, again fearing the correction is imminent, sell some or all of their stocks and stock mutual funds. Or they put off buying stocks in companies they like and sit on their cash, waiting for the crash. “Better safe than sorry,” they tell themselves. “I’ll wait for the day of reckoning, when all the suckers who didn’t see this coming are wailing and gnashing their teeth, and I’ll snap up bargains left and right.” (But once the market reaches bottom, the cash sitters are likely to continue to sit on their cash. They’re waiting for further declines that never come, and they miss there bound.)

They may still call themselves long-term investors, but they’re not. They’ve turned themselves into market timers, and unless their timing is very good, the market will run away from them.

Of course, doing nothing sounds easy enough when everything is going great. How you act when things get painful is what determines your success.

I recommend reading the rest Lynch’s article here: Fear of Crashing

Last Call

  • Are You Prepared? – MicroCapClub
  • The Other Side – Irrelevant Investor
  • Careful What You Wish For – M. Housel
  • What Pitching From the Stretch Has to Do With Investing – Abnormal Returns
  • And Now For Something on Index Funds – J. Zweig
  • Compared to What? – S. Godin
  • Interview w/ Warren Buffett and Jorge Paulo Lemann – Youtube
  • Marks Memo: Lines in the Sand – Oaktree
  • Larry Fink Q&A: “I Don’t Identify as Powerful” – Bloomberg
  • Frank and Steven’s Excellent Corporate-Raiding Adventure – Atlantic
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