Have you ever traded the market? Is it more fun than sticking to long-term investments? It can be an exciting game. You can jump in and out of positions, always trying your best to master timing the market.
This strategy doesn’t work for most investors, especially if your goal is to outperform the market.
The Odds Are Stacked Against You
An article by Rob Otman describes why the odds are stacked against retail investors. “In the short run, the market is a zero-sum game. For every buyer, there’s a seller on the other side. Each trade nets out to $0. That being said, trading fees and market makers cut into the trade. And this makes trading worse than a zero-sum game for retail traders,” he explained.
To summarize, Otman said, “Retail investors are up against more knowledgeable and better-financed traders and systems. If you think you can beat teams of engineers and scores of folks with doctorates in math and statistics, more power to you.”
In a post on the Wall Street Journal, Shlomo Benartzi wrote, “A new study finds that active trading also significantly increases the volatility of a portfolio. Market timers actually assume much more risk to get those lower returns, compared with investors who simply buy and hold investments.”
He mentions the wild ride investors have experienced this last year, along with digital apps, which encouraged those stuck at home to jump into active trading. He then refers to a “new study from Ilia Dichev of Emory University and Xin Zheng of University of British Columbia that explores the connection between active trading and risk.”
Benartzi adds, “Although active investors tend to ‘chase stability’—they are trying to minimize volatility by market timing—they end up doing the exact opposite, according to research, as they invest in stocks after past volatility is low and before future volatility is high. The end result is high capital exposure when volatility is increasing. In particular, Drs. Dichev and Zheng find that ‘the volatility of the actual investor experience is nearly 50% higher than the corresponding volatility of stock returns.’”
Make Trading More Exciting?
Why do so many investors continue active trading and market timing even when it appears counterproductive? Some think the rules don’t apply to them. Others enjoy playing the market, trying to pick the winners.
And now, there are apps to gamify investing, with stock values updated every few seconds, numbers spinning like a slot machine and confetti falling across the screen in celebration of your actions. Is this like a robo financial advisor encouraging your trading? Does this make trading more exciting and profitable?
“Still, research from Dr. Dichev and others suggest that making trading easier and more exciting is likely to backfire for most investors. Instead of celebrating the activity, we should be encouraging investors to stay focused on the long-term. We should show them confetti for not trading.
We’re living through a period of high volatility, both for the world and the financial markets. However, one proven way to make your investments less volatile in the new year is to do as little as possible with them,” concludes Benartzi.
Do As Little As Possible With Your Investments
As Benartzi suggests, do as little as possible with your investments. Don’t look for the falling confetti. Look for increased growth. Don’t search for spinning numbers on your screen. Watch your personal retirement planning portfolio expand.
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