Should you invest in the stock market? There are clues that say you should not.
Clues leading to flaw #1. Look too often.
- Lacking confidence
Leading to Flaw #2. Overconfidence.
- Lack of knowledge or skill
- No fundamental understanding of how businesses work
Flaws one and two together lead to the greatest impediment to success in the stock market – unreasonable expectations.
The stock market fluctuates. Once you recognize that, you have a chance. Whether a stock goes up or down in the short run says little about you as an investor and even less about the underlying business.
If having the stock go up defines you, then you will be disappointed. If you cannot calm your disappointment, when it goes down, you will sell and probably buy some stock that you know even less about.
If you understand the value of a business, then you need not look at the stock price established by the market. The stock market values things based on a show of hands. Objective value is barely considered. Do you want to rest your financial future on objective value or on the emotions of yourself and your fellow humans? Maybe understanding value would make more sense. Or maybe finding an investment manager who does.
When you miss the show of hands idea of value, vigilance will hurt you. People are more depressed by a loss of a given size than they are euphoric about a gain of the same size. If you look a lot, you will be depressed a lot and depressed is not helpful.
To test my premise that looking hurts and the idea that not all good stocks go up consistently, I looked at 35 years of daily prices for a familiar and successful stock.
Day over day change is downwards 41% of the time. Biggest one day down 18.3%. Yikes!
Well maybe days are too volatile even for a good stock.
Month over month is down 38% of the time. For all the one month results, about 3% of them were down more than 10% and about one in ten of those was down more than 20%. The worst was down 34%. Lose a third of your money in one month. Double Yikes! How can this be a good stock?
Well maybe months are too small. So years. Of all the year over year values, 19% are down. Three of them substantially down. Would down 36% scare you If yes, then down 46% and down 49% must be truly depressing.
The reality is that most amateur investors who look would have bailed. Should they have done so? Maybe not.
At the close of business on 5 May 1980 the stock traded for $285. At the close of business 5 May 2015 for each $285 you invested and kept, you would have $218,000. Almost 21% compounded rate of return.
Berkshire Hathaway Class “A” has been a great ride but only if you understand the fundamentals. If you did not understand both business valuation and the stock market, impatience and vigilance would have taken you out.
Berkshire Hathaway’s 50-year-serving chairman has this to say.
“It’s a terrible mistake to pay attention to those bobs ups and downs, because you will drive yourself crazy if you do so and become an inferior investor”
“Risk is what happens when you don’t know what you are doing.”
Jim Cramer adds considerable wisdom to Mr. Buffett’s idea:
“The ultimate takeaway, to me, is that if you don’t have a process that you are confident can produce a result, then you simply shouldn’t own stocks because you will end up buying stocks of companies you don’t know and losing money doing so.”
“Do you have a process? Do you know what you own? Do you have patience once you have worked the idea through your process and pulled the trigger? If you don’t, then I think Buffett’s making it very clear individual stock ownership isn’t for you.”
As Pogo has said, “We have seen the enemy and he is us.”
Don Shaughnessy is a retired partner in an international public accounting firm and is now with The Protectors Group, a large personal insurance, employee benefits and investment agency in Peterborough Ontario.