Let’s say you’re visiting Fisherman’s Wharf here in San Francisco, and I, a stranger, gently accost you to ask, “Would you rather have a container ship or a speed boat?”
Assuming you were willing to give me the time of day, it’s easy to imagine that you might fall into one of three groups: the group that starts thinking about the money they might earn with the container ship; the ones that imagine how much fun they might have with the speed boat; or the group of people that furrow their brow and ask, “Well, for what?”
Yes, I’d say if you asked, that is the all-important question. For a day of fun on the San Francisco Bay, you probably want the speedboat. To cross the Pacific to Japan with all your earthly possessions, you probably want the container ship. The purpose for the vessel dictates what type it should be.
It’s the same with an investment portfolio: your purpose for investing determines what type of portfolio you should build. To relieve the boredom of endless Zoom meetings, one of the smartphone apps that has fueled a new day-trading trend is probably what you want. To achieve long-term financial goals, most people understand, a sturdier approach is probably in order.
Metaphors such as the container ship vs. speedboat have been helpful in framing investment discussions with clients. In addition to summarizing a lot of information quickly and cutting through the blah-blah-blah of investment jargon, they help make the abstractions of investing more concrete. This is important in a world of financial “products” such as stocks and bonds that are, in reality, nothing more than contractual agreements, and where even the noisy blue-jacketed traders on the nightly news have been replaced by rows of humming, faceless computers.
If you understand that your portfolio is a container ship to help cross an ocean of time, it’s easier to accept that you need to be well diversified to protect against surprises like heavy weather. You’re positioned to be patient, knowing that the voyage to achieving your financial goals will take time and may involve setbacks and heavy swells along the way. You may feel well-aligned with the discipline that you exercised in other parts of your life to achieve success, balancing fun with hard work and remaining committed to your goals.
But metaphors can do only so much. We still have to make the investment journey.
The Risk of FOMO (Fear of Missing Out)
It’s pretty easy to get people on board with the idea of diversifying their investment bets. Particularly if they’ve been living with a less optimal portfolio, it’s often a relief to move forward with a more diversified approach.
The hard part comes after you’ve left the bay, smiling at the frolicking speedboats composed of only a handful of stocks and leaving all other investment strategies in their wake. You know better than to be tempted by all that.
Then, out on the open sea, something unpleasant happens. Your container ship is chugging along at about 18 knots, balancing speed with energy efficiency, when a bright white speck appears behind you off the stern. As it gains on you, you see a cruise ship, a giant floating palace traveling at a brisk 25 knots that makes your stodgy ship seem like it’s sitting still in the water.
Long before the term FOMO was coined, the writer David Foster Wallace described the phenomenon perfectly in his hilarious essay about traveling by cruise ship, “A Supposedly Fun Thing I’ll Never Do Again.” His ship the Nadir initially astounds him with amenities and service, until an even more luxurious ocean liner docks alongside:
The Dreamward is blindingly white, white to a degree that seems somehow aggressive and makes the Nadir’s own white look more like buff or cream. The Dreamward’s snout is a little more tapered and aerodynamic-looking than our snout . . [it] has more pools on Deck 11 than we do. . . . I start to feel a covetous and almost prurient envy of the Dreamward. I imagine its interior to be cleaner than ours, larger, more lavishly appointed. I imagine the Dreamward’s food being even more varied and punctiliously prepared, the ship’s Gift Shop less expensive and its casino less depressing and its stage entertainment less cheesy and its pillow mints bigger. (Little Brown, 1997, pp. 314-15)
FOMO is the curse of all investors, but particularly well-diversified ones who, by spreading their bets widely among different types of stocks and bonds, have necessarily given up bragging rights. It’s one thing to contemplate and accept the goal of building a portfolio designed to perform reasonably well under a variety of circumstances. It’s another to be confronted with the results of competing portfolios that happen to be optimized for current economic conditions.
This is when willpower weakens and faith lags. Which can lead to another problem.
Recency Bias
Few of us want to admit to being led around by the nose by our emotions. So, to defend against any such sordid accusations, many of us retreat to the seemingly higher ground of intellect. Nowhere is this easier to do than with investing.
Investing is about numbers - seemingly objective measures of what’s true and what’s not. Cash flows and interest rates; investment gains and losses; balance sheets and income statements -- the data go on and on.
If we want to find a reason to jump ship from our current investment course to the current winning strategy, we can find easy justification in the numbers. For example, as one writer notes, the S&P 500 Index has in recent years beaten the most sophisticated investment managers in the world:
Of the roughly 3,700 balanced U.S. mutual funds with a five-year record, just two managed to beat the S&P 500 over the last five years. . . . Of the 38 university endowments tracked by Bloomberg that have reported performance through fiscal year 2019, all of which oversee a bounty of more than $1 billion, not one beat the S&P 500 over the previous five years — not even the mighty Harvard and Yale endowments, despite the talent and resources their collective $71 billion affords them.
The problem is, most long-term investment time frames extend far beyond five years. Even a decade represents a fraction of the half century that many investors have ahead of them to fund and then enjoy their retirements. How can we possibly justify using such a short data series as the basis for a long-term investment portfolio?
Because our memories are short, apparently because of our biological wiring. To predict what will happen next, we focus on what’s happening around us in the moment.
In this context, looking back five years seems more than adequate. But it misses important information. It omits, for example, the long periods when the S&P 500 Index has failed even to keep up with the low returns of cash.
Do you remember the “lost decade for stocks” from 1999 through 2009 when the S&P 500 Index underperformed Treasury bills while globally investors enjoyed not just positive, but robust investment returns? Or the even longer period from 1966 through 1981 when the Index returned less than cash, leading BusinessWeek to declare the “death of equities” on its infamous magazine cover?
If you don’t, the USS(&P) 500 Index may be an irresistible temptation compared to your prosaically diversified container ship. But you jump at great peril.
Perhaps today’s investment winners will keep powering ahead beyond the horizon. The future is coming, after all, and it appears to be a tech-driven world, with Amazon eating JCPenney, and 6G networks promising to far outpace the 5G networks that aren’t even fully installed.
However, it’s just as likely that today’s winners will be bested by someone new, as Jason Zweig notes today in a terrific article. After all, a lot of today’s winners seem to have appeared out of the blue, with many being barely twenty years old.
Investing for the long term means expecting surprises, something that 2020 has taught us more than most years. If it’s excitement you seek, you can take heart, since you’re almost guaranteed to find it, even on your sturdy container ship.