Lately the media has been frothing over the rocky financial situation in Greece. Banks and stock markets closing, on top of high unemployment and chronic recession – surely these dire circumstances must have important repercussions for investors here, right? How concerned should we be and what should we do?
It’s important to remind ourselves why we’re invested in the first place. Most people are interested in having enough money for life after work. Generally, this means we have a time frame that spans decades. It’s easy to forget this when listening to the news. Events in Greece are serious. The economic situation for Greek citizens will likely get darker before it gets brighter.
Don’t just sit there, do something!
All this bad news may make us feel we must “do something.” What if the problems of Greece spread to other countries in Europe and drag down an already fragile economic recovery there? Europe is a major trading partner with the U.S. What are the implications for our own economy? It’s easy to focus on what could go wrong. Is there something here that warrants action in terms of your investment positioning?
Strategic vs tactical
There are two basic approaches to investing. Most individuals invest to grow their assets to provide income for decades in the future. The idea is to have an investment mix that increases the probability of achieving that goal over the long term. This is the strategic perspective, assuming a time horizon of ten years or longer. It implies not making changes due to near term news events.
Then, there’s the tactical approach, an investment strategy designed to exploit short-term news, like what’s happening in Greece. There is no shortage of developments that can move investments up or down, and a class of investors intent on capitalizing on these events.
“Who are those guys?”
I’m reminded of the scene in Butch Cassidy where he and Sundance repeatedly asked this question while being chased by lawmen. Who are those guys who make bets on short-term news events? They tend to be professional investors who are well informed and have specialized sources of information. They seek to make money on their information advantage and superior decision making. Many travel in hedge fund circles. They attempt to anticipate market moves and actively trade.
This generally goes by the name market timing. These investors may make tactical decisions such as avoiding European stocks or betting on the possibility of Greece leaving the Eurozone. Timing is critical in terms of when to get out – or in – anticipating a market event, likewise when to reverse course to make money when the trend goes the other way.
It is difficult to do!
Research in the area of market timing suggests that few investment managers can do it well. It requires being right such a large percentage of the time that it is “not something you should try at home.” Some authors estimate you need to be right 70-80 percent of the time to beat a simple “buy and hold” (think “strategic”) investment approach. (For a good review of the literature on this subject see Bauer & Dahlquist, Financial Analysts Journal, January/February 2001, p. 28-29.)
When doing nothing is a perfectly good idea
We started this discussion by asking how the financial crisis in Greece might affect our investments here at home – and what we should do about it. When it comes to the daily news and our investment decisions, doing nothing is the preferred course of action.
It boils down to this: if you construct your portfolio to return a certain percent over two, three or four decades, a hiccup, recession or unusual event may take your portfolio off course for a few years. But it will recover over time. Trying to be smart by anticipating events and timing the market is more likely to hurt your returns over the years. It is even a challenge for professional investors.
Turn down the news, or perhaps even turn it off. Take a deep breath and remember that there are always negative things that could happen. Reacting to those dangers, both real and imagined, is usually the wrong thing to do. Those who have a strategic long-term investment approach and can stick with it will most likely be successful in meeting their investment objectives.