Financial Confidence

Why We Care (or Don't) About Causes

2009-07-18T18:26:00.000-07:00

It's unusual for me to post twice in a day, but I just saw this link posted by one of my colleagues, and it's an interesting piece on human behavior that I just had to share. Simply click on this blog title to go to the article.

Economics- Information or Buzz Kill?

2009-07-18T07:52:00.000-07:00

Economics has been dubbed "the dismal science" (it's not a hard science like chemistry, but is lumped in with sociology and psychology). I suspect one of the reasons that it has this moniker is due to its basic definition: "the study of competing demands for scarce resources." Do you find that depressing, or at least, not very uplifing? To me, the concepts of competition and scarcity are trigger words (more about that in a moment).

Interestingly enough, the study of economics, during the past 20 years or so, has developed a sub-category called "behavioral finance." Economists study what is considered rational behavior (buy low, sell high, hold for the long term, maximize your economic benefit), but they have observed a lot of "irrational" behavior (which could be summarized as irrational exuberance and its dark cousin, terrified capitulation) and decided to study that scientifically as well. So, you could say that behavioral finance is the shadow side of classic economics.

In my opinion, a lot of the "irrational" behavior is quite explainable without requiring equations - it is a fear-based reaction to these concepts of competition and scarcity. In a more perfect world, we might recognize that competition and scarcity are human concepts, not reality. In that case, the fear would immediately lift, behavior around money would normalize, and life would be a lot different.

But this isn't a perfect world. And, although behavioral finance has been around for a while, very little of this knowledge has trickled down to the average citizen, who still is at the mercy of his or her fear-triggered irrational money behavior. Financial advisors are aware of these concepts, mutual fund managers try to use these concepts as portfolio management strategies, but the average citizen still has to cope with their uncomfortable feelings without any understanding.

A few years back, I developed a course for investors that discussed some of the most applicable concepts of behavioral finance and showed these individuals how to understand their behavior and avoid some of the bad decisions that would otherwise result from reacting to their instincts. It's a fascinating study, and once clients took this class, they were much more comfortable and patient investors, since they had tools to ease this discomfort. I have attached a preliminary flyer for this course, since it's high time that I teach it again; it will be re-cast as as series of teleconferences. So, watch for an announcement for Preparing to Invest Wisely!

The Difference Between Men and Women (again)

2009-06-24T08:54:00.001-07:00

Ever since we were young children, we have been aware that boys (men) and girls (women) are different.

In my profession, you hear a lot about the difference between men and women in terms of investing behavior (men are bolder and take more risk, women are more nervous and take less risk). It's true that men will often, because of their bolder approach, make a few more investing mistakes than women, and women will often pass up better returns in favor of safety.

Well, it turns out that women and men have very different reactions to stress (and of course, none of us are experiencing that, lately). The common, universal belief was that the human reaction to stress is the famous "fight or flight" response. Hah! The studies leading to this conclusion were only done on males.

My friend Delia Fernandez (an advisor in Southern California) was preparing to give a speech to a women's group and dug up this interesting tidbit: About 10 years ago, a group of (women) researchers decided to study stress reactions in females. So they assembled a pack of female rats, and subjected them to stress (Delia did not tell me exactly how they stressed the lady rats). And, their reactions were completely different than male rats - rather than starting fights or huddling alone in the corner of the cage, the female rats sought out their friends and offspring, sharing a lot more affection and mutual grooming than usual, when they were experiencing the stress. The researchers, seeking an alternative terminology to the "fight or flight" description, dubbed this reaction "tend and befriend."

So, it's a normal reaction for a man to swear or hide out in his man-cave under stress, and ladies - that urge to call your girlfriends and go out for a pedicure when the going gets tough is your normal reaction to stress!

Letting Go

2009-06-14T09:28:00.000-07:00

How often have you felt that you can't sell a stock or fund in your portfolio because its value is very depressed, and you keep thinking "I'm gonna wait until it's back at what I paid for it, and THEN I'll sell it and buy something else"? It's almost as though we think that holding owes us an apology for being such a pain.

Here's a little example that may expose the trap you have fallen into. First, suppose that you had logged onto Fandango (the on line movie ticket service) and bought a $10 ticket for a movie that you have been eager to see. You print it out and head to the movie theater. However, on the way from the parking lot at the mega-mall, you somehow lose your ticket. Are you going to be willing to fork over another $10 cash to see the movie? Or do you just turn around and go to Best Buy instead?

On the other hand, if you did not buy your ticket ahead of time, you may have gotten to the movie theater with the intention of paying cash for your ticket. When you get to the ticket seller, you see that there is $10 less in your wallet than you thought (although there is enough money to buy the ticket). Do you still go ahead and buy the ticket?

What is your reaction? A study shows that people are more likely to walk away if they had bought the ticket ahead of time, since they "already spent" the money. But, you have "lost" $10 regardless of the scenario. Due to a behavioral quirk called "mental accounting" you believe that the money already spent on the ticket is more "lost" because you used it to buy something concrete, than the $10 shortfall in your wallet.

In the stock/fund case, you have lost value due to that specific holding, and investors tend to believe that they must regain that loss before they can sell the holding and buy a replacement. However, here is a question to ask yourself: "If I had cash today and was evaluating investments, would I buy XYZ today?" The answer will probably be no. In that case, you should sell that investment and replace it with something better (in these days, sell the GM stock and buy Ford - this is not a recommendation but an example) right now. If you choose wisely you will recover your losses and then some. Don't make the original holding responsible for your investment satisfaction. As Peter Lynch once said "That stock doesn't know that you own it." If that's true, its purpose in life is not to make you happy or to do as you say!

Sleeping Through a Crisis (or not)

2009-05-30T11:08:00.000-07:00

We remember the story of Rip Van Winkle, a ne'er do well fellow living in upstate New York just before the Revolutionary War, who played ninepins with some mysterious ghostly characters. He accepted a drink from them, and promptly fell asleep for twenty years; when he finally awoke, the world had changed drastically.

Well, suppose you had a tiny sip of this same stuff, say, on New Year's Eve, and you fell asleep and didn't wake up until this morning (May 30). Knowing that 2008 had been a bad year for the stock market, you dread opening up your May investment statement, or looking at your 401k balance, but much to your relief, you are actually a little higher than you were on December 30, 2008. "Well" you think to yourself,"that little nap was no big deal because obviously nothing went on while I was snug in bed."

As the attached graph shows, you actually missed a significant amount of drama! If only we could all go to sleep while bad things happened - we'd be much less inclined to "do something!!!!" Simply waiting out this turn in the market while wide awake, however, was nerve-wracking. And this just got us back to where we were at the end of the year.

Continue to watch with interest and curiosity as we continue down this path - it's up to you to take a nap or stay awake on the way.

Pat Is Back - After a Long Christmas Vacation

2009-03-27T13:38:00.000-07:00

Gosh, I haven't posted anything since just before Christmas? Well, the first couple of months this year were scary, and through March 9, downright upsetting.

However, the market has lifted off of this bottom, with rallies interspersed with fallbacks and consolidation days. However, the market is simply now no longer on its butt, but on its knees. We have a long way to go before it is on its feet, steady, and marching forward (with occasional detours).

Much of this rally is a move away from the extreme pessimism we were experiencing; the bulk of the relief is come in the form of more detailed revelations of the actual workings of government programs. Banks performed better than expected in January and February, although the market did pull back today when those same banks indicated that March would not be as good.

I must re-iterate here that the market in the long run is a LEADING indicator. This means that it generally tends to point to where the economy will be in six to nine months. For the most part, you can get the impression that the market responds to news (good - up , bad - down), and in the short run it does indeed respond to news, especially surprises. But we could possibly now begin to think that this lift of the market off of the bottom may be telling us that the economy will start to lift off its bottom starting at the end of the year.

But, it's no use making too much of anything right now, as even the announced government programs have not begun to operate. It's too soon to make any statements about whether or not these programs will work (although there is no shortage of pundits out there who are ready with opinions). We want relief, and we want it now, and it's hard to wait for the results.

The Human and Non Human Face of Greed

2008-12-24T12:55:00.001-08:00

Unless you live on another planet, by now you have heard about the Bernard Madoff scandal. Through his investment company, he lured trusting investors (including personal friends as well as high level banks and investment companies) into a Ponzi scheme that resulted in the loss of billions of dollars. Essentially a Ponzi scheme brings in investors, and then uses money coming in from subsequent investors to pay what appears to be returns to the early investors. Of course, this unravels because the only way this works is to keep expanding your base of new investors, and that is not possible since the number of human beings on this planet is finite.

What makes people invest in Ponzi schemes (or multi-level marketing, for that matter)? The lure of assured positive returns, no matter what. We have seen that this is not possible in all environments, but greed and fear can blind people - or at least, cause them to see only what they want to see.

This scandal puts a human face on false markets and false returns. I do believe that the last two bull-and-bear scenarios were also cooked up with false pretenses. The 1998-2000 bull market was fueled by insane expectations regarding the profits of high tech and Internet companies (many of whom had no real product that created actual economic value). When we finally looked to see where the money was, it wasn't where we thought it was (in the true value of the companies) and stock prices dropped as the assets were drastically re-valued. Many of those firms no longer exist (remember Pets.com and the sock dog puppet?). The 2003-2007 bull market was fueled by low interest rates and the housing boom, which drove financial institutions to "engineer" and sell securities backed by home mortgage debt; by the "engineering" I refer to the fact that these securities were then borrowed against, and the money created from the sales was used to purchase more of the same type of securities. So, theoretically, the same loan was sold 1o to 40 times. Again, when we looked to see if the money was there, it wasn't , since the financial engineering created a sort of technical Ponzi scheme. The money wasn't there, and the assets had to be revalued. This time, it wasn't just stocks, but home values, and even the viability of the banks and investment firms (some of which have gone out of business just like Pets.com) that plummeted, along with our confidence in "the system."

This may seem depressing, but we now have a chance to dust ourselves off, change our thinking, and figure out ways to help the economy recover through the creation of real value and growth. Perhaps after two "trickster" markets, during which we really didn't make any progress, we can now set aside greed and fear, and put some real thought into what we do going forward. I have appended an interesting chart to this rather long blog (making up for the lack of posts thus far) which illustrates two things: the two "false" markets, and the possibility that we have once again returned to reality with the chance to move forward with true growth.

Can Doing the Right Thing Be Fun and Feel Good?

2008-11-14T09:53:00.001-08:00

I heard a comment from a market maven this morning that staying the course (meaning, holding your investment discipline - i.e. resisting the urge to throw everything overboard and hide in a cave) is the right thing to do, but it isn't fun. This is true, in a limited sense.

Doing the right thing is something that we are taught from a young age, and it usually involved giving up something fun (playing in the back yard) and doing something we didn't want to do (clean up our room).

But I think that in a less limited way, doing the right thing should feel good and even be fun. It all has to do with the state of mind in which you "do the right thing."

We've all heard the Biblical statement "God loveth a cheerful giver," which was usually used to urge congregants into putting more cash into the offering basket without grousing about it. The real meaning of this phrase is that you create a more harmonious feeling in yourself when you "do the right thing" from a generous mind set, rather than a feeling of guilt or obligation. Here's an exercise that you can do, since we are all in this situation from time to time:

Suppose you are driving on a crowded freeway during rush hour, anxious to get home and relax. Most people on the freeway are NOT in a generous frame of mind. But try this: tell yourself that there is plenty of time, and that your journey homewards will be effortless. Then, whenever a car needs to change into your lane, allow them to do so, and smile to yourself as you do it, continuing to tell yourself that there is plenty of time. Maybe even let two or three cars go ahead of you.

You may be amazed at the change in your experience. I will bet that you still get home in plenty of time, you will have done the right thing in the right frame of mind, and you might not even need that glass of wine before dinner.

Practicing this little bit of doing the right thing from a generous mindset just might inspire you to start applying this to other areas of your life that have felt like obligations. A book that you might want to read is "Skillful Means" by the Buddhist writer Tarthang Tulku. This is an excellent way to review your mindset about all types of work, "obligations," and other issues in life so that you can shift from the concept that certain things are a waste of your time to a recognition that there is nobility and even the possibility of spiritual growth in the humblest tasks.

But I Need to DO SOMETHING!

2008-10-26T16:04:00.000-07:00

I know that each of us is each personally feeling that we are facing a BIG problem right now, affecting our selves, those that we love, our ability to retire, other cherished goals. We are not helpless, in fact, we are used to being in charge of our destiny. And here I’ve been telling you to do…nothing: Stay the course, don’t panic, don’t sell your stocks. But, you may be saying, I’ve listened to you, I’m not panicked, and this is not completely about my portfolio. I have plenty of energy and determination, and doing nothing in a crisis is not what I’m about.

Here’s what I can say to you.

We have been on quite a ride for a number of years, and fear and greed have been the catalysts of the growth AND the crisis. Fear is the greatest enemy, and greed is the unlovely daughter of fear – the behavior created out of the fear of not having enough, of missing out, of not looking good, resulting in an unhealthy reliance on forces outside of ourselves to create abundance and peace of mind.

Fear and greed inspire very poor long term decisions. Collectively, we as a country have not been good stewards of what we have been given. We have put too much reliance on the growth in the value of our homes and portfolios, and we must be careful now to avoid too much reliance on government interventions and political promises.

So, here is what you can do. If you look closely at the U.S. economy, you will find it is made up of 200 million or so individual economies. Start thinking about your own personal economy and begin to think about how you can be a better steward of that personal economy. Turn a little of your fear into interest and curiosity and create some inspiration about how you personally can shift your own situation and contribute to your own solution. This might involve working longer, saving more, spending less, finding creative ways to economize that don’t involve giving up joy in life but provide you with more quality time, thinking more about the future with optimism rather than anxiety. The ability to save (and spend less than what comes in) has a far greater impact on our future way of life than the returns that come from the market, good, bad, or – in the case of the last couple of months – awful. If you can commit to a personal action plan, when the market recovers, you may find yourself in an even better position than before.

Watch This if Nothing Else

2008-10-05T15:59:00.000-07:00

Things have been moving so fast during the past few weeks that, every time I think of something to say, a new event occurs that makes a day-old commentary worse than ancient history.

However, Warren Buffet has seen a lot (although even he admits that he's never seen anythink like the current situation) and in this 54 minute interview with Charlie Rose, he lays out our situation with a clarity that no media pundit could ever achieve. Please watch this interview as Mr. Buffet honestly evaluates the current situation and future possibilities without ringing alarm bells, screaming and jumping up and down, or pounding the table. Most importantly, while observing that there was foolishness going on (he attributes this to "being human") he refuses to blame or look backwards.

I won't say any more, but have provided this link so that you can hear his friendly common sense, presented in a way you can understand (he likes to imagine that he is explaining things to his favorite sister).

http://www.charlierose.com/shows/2008/10/01/1/an-exclusive-conversation-with-warren-buffett

Investing Wisdom? Yes, But...the final episode

2008-09-20T09:57:00.000-07:00

The final principle of investment wisdom to be discussed is - hold for the long term.

Yes - You can't hope to jump in and out of the market based on guesses as to direction with any success. You would have to be right about market moves about 70% of the time just to equal the return on a long term holding strategy for the same time period.

But - Be sure that you have made the appropriate time frame decision for your investment goals. If you are saving for a furniture purchase, a home downpayment, or any other short term goal with a definite dollar amount in mind you should NOT be in the stock market! Ever! No matter what hot stock tip your brother-in-law came up with. This money should be in a money market fund, cash, savings, CDs, perhaps a short term high quality bond fund.

Stock market investments should be made with a MINIMUM five year commitment; and given most recent market behavior, perhaps, ten years. So, your 401k, your college savings (for younger children) and any other investments with this longer time horizon can be put out in the market, because these longer time periods smooth out the short term risk.

And, even most long term portfolios also contain some cash or bonds because of the stabilizing effect on returns over the long time period, providing a somewhat smoother ride.

Investing Wisdom? Yes, But...continued

2008-09-20T09:46:00.000-07:00

The second principle of investment wisdom is to buy low (cheap) and sell high (expensive). This is similar to the major principle of weight control, which is to eat less and exercise more. Both of these principles are difficult to apply, given human behavioral tendencies.

Yes - it's obvious. If you sell a holding for more that you paid for it, you make money.

But - you must evaluate your holdings, especially funds, to see if the particular investment that you hold is still a good representative of its asset class for your portfolio. Sometimes, fund managers make serious goofs (they are human just like the rest of us) that damage their performance (and your results). If, after sufficient research, you believe that you could do better with a different international large company fund, there is no harm in selling the "B" fund and buying the "A" fund, even if your "B" fund has hit a low. This is somewhat similar to a football team replacing a player. You have the same team but a new individual in the same position. Morningstar (http://www.morningstar.com/) is a good research tool for ferreting out the best funds. By "best" funds, I mean the funds that are good representatives of their asset class, not the hot performers. I am NOT recommending that you constantly replace funds because they've slipped from five stars to three stars. Read the analyst's comments before you decide that the fund simply doesn't have a place in your portfolio any more.

Investing Wisdom? Yes, But...

2008-09-20T09:34:00.000-07:00

Sorry to have been away so long. It's been an interesting month, in the Chinese sense.

During periods of market turmoil, we are all reminded by the best advisors and investors in the world of the basic principles of investment sanity. However, these principles should not be applied blindly, or you may make mistakes despite your diligence. In this next series of posts, I'd like to lay out these principles and explain how they should be PROPERLY applied, and when they don't work.

Principle #1 - Buy and Hold

Yes - chasing hot stocks or funds is amusing in the short run but disastrous in the long run. A properly designed portfolio has a DIVERSIFIED set of holdings representing multiple asset classes that have been put together with a plan in mind. Any one holding at any one point in time may not look like it's doing well - which is normal, as different assets perform differently in varying market environments - but the portfolio as a whole will progress over time. Yes, when the market goes completely nuts (as it has recently) everything seems to go down, even bonds, but that's a temporary condition.

But #1 - be sure that you have a diversified portfolio. If you own five large cap growth funds and nothing else, you are not diversified. You will be the victim of the ups and downs of a single asset class. More of the same is not diversified

But #2 - be sure that you rebalance! This is the essence of another principle to be discussed later (buy low, sell high). Especially after a period of market craziness, your portfolio may no longer look like its original design - you may be too high in bonds and too low in small cap equities. At this point, when you rebalance, you sell some of the "winners" (bonds) and buy some of the "losers" (small cap equities). Sell high (bonds), buy low (small cap equities) - sounds right, doesn't it? However, psychologically, this can be difficult which is why you must have a planned portfolio and make a commitment to stick to the plan. Who wants to sell their safe Treasury bills and buy scary stocks this week?

Gratitude - The Forgotten Factor

2008-08-07T17:28:00.000-07:00

What is the flip side of paying too much attention to the negative? We aren't grateful for the good in our lives. Why is that so important?

"Good" things and "bad" things happen to us all of the time (although "good" and "bad" are also a matter of viewpoint). Nevertheless, "good" things are supposed to happen to us (right?), so why should we pay any extra attention to the "good" things? Instead, we feel so much more compelled to focus on the "bad" because, as humans, we are hard wired to pay much more attention to hazards (it's a survival instinct) and to take benign or even above-average experiences for granted.

However, a study commissioned by the John Templeton Foundation a few years ago found out that it is highly beneficial for us to practice gratitude, on at least a weekly basis. The study found that people who practiced gratitude in their lives experienced increased well being, were more optimistic and satisfied, made progress towards personal goals, were more understanding towards others, and placed less emphasis on personal success and material possessions. They did NOT ignore or deny the negative aspects of life; however, gratitude increased their ability to feel pleasant emotions.

During all times, and not just tough times, it might be interesting to start a weekly (or daily) gratitude journal, and start acknowledging the good in our lives, rather than taking the things that make you comfortable and happy for granted. It's possible you could start feeling better emotional balance in your life.

Follow the link provided for more information on this study.

Why Brett Favre Can't Quit

2008-07-31T08:48:00.000-07:00

Football players endure a lot of pounding. Quarterbacks, such as Brett Favre, are constantly mauled. After 17 years of professional play, last March Mr. Favre finally announced his retirement from the Green Bay Packers, saddening many cheesehead fans.

Ironically, Favre is now trying to return to professional football. As he knows it would place the Packers in an awkward situation (they are already grooming their new quarterback) he's willing to be traded to another team. He has refused an offer of $20 million to stay retired (he has two more years on his contract). What's up with this?

A colleague of mine pointed out that the real story behind this is that Favre did not prepare mentally to be retired. Football was his life, and his retirement was reluctant, mainly due to concern over injuries. Football players have very different career trajectories than, say, symphony conductors - a 40 year old quarterback is a grizzled veteran and a 40 year old symphony conductor is a prodigy. Football players often retire due to injuries, and since they are relatively young, career-wise, they need to consider how to stay engaged and happy during their "retirement." And here's one of the problems with the word "retirement:" it implies that you are through with your productive life. The concept of retirement at age 65 actually was developed in the 19th century; in those days, most people had physical jobs and were literally worn out by age 65. The idea of offering a pension to retired workers at age 65 wasn't as generous as it appears today - most people did not live more than a few years past 65.

For Brett Favre, needing to work for financial reasons is not his motivation. He has achieved financial independence, which is a far better concept than "retirement" with its implications of no longer being useful. If Favre had planned well (look how Steve Young is enjoying his retirement) he may not have missed his active career so much, since he could have other productive activities to look forward to.

This is true for non atheletes as well. Rather than thinking of retirement of a goal, I encourage you to think of the concept of financial independence, which is the point at which you have complete choice about what you will do going forward. You could choose to continue to work, stop work completely and engage in hobbies and interests that you had to defer, volunteer or engage in philanthropic work, or work in some other field that you love, but is not lucrative. But, have a plan, since traditional retirement is a major life event, which can affect your personal relationships, your health, and your self esteem in ways you need to anticpate.

Market Sense versus Market Emotions

2008-07-18T15:15:00.000-07:00

The simplest route to investment success is to buy low (when the market/target investment is low) and to sell high (when the market/target investment has risen). It works every time, and you can certainly understand this on an intellectual level.

BUT - when the market actually goes low/high, your emotions get in the way. The way that you FEEL about the market will often lead you to a completely inappropriate action, because of the emotions that these market movements produce.

This graph is the best explanation of the cycle of market emotions that I have ever seen (thanks to WestCore Funds for making this available to me). It is easy to observe that the true (scientific, that is) points of market risk and market opportunity do NOT coincide with the correct emotional mind-set. As someone said, the stock market is the only market where, when things go "on sale," no one wants to buy!

Welcome, and Why I'm Here

2008-07-16T13:10:00.000-07:00

Welcome to my blog site - I've finally surrendered to the trend.

Given the shaky stock market, unprecedented economic events and upheavals, and the usual crisis of confidence that occurs during these tough times, my intention for this blog is to help anyone who reads it to put everything into perspective for the long haul.

Decisions made in a fear-based environment are rarely good long term decisions. Usually, the right thing to do in the realm of investing and financial planning feels really wrong in the moment. Whatever you desperately want to do RIGHT NOW is probably not at all the right thing, although it may temporarily ease immediate pain.

So, helping you to understand your human nature and its emotional response to financial unpleasantness, so that you can respond in a scientific and rational way (and then go for a walk, turn off the news, and have some peace of mind) is my goal.