Tag Archives: investing in the stock market

Market Mayhem

Posted January 5, 2012 by admin. tags:Tags: ,
Market Goblins

What to do while we’re between a stock and a hard place.

Written by Dave Young, President of Paragon Wealth Management

At Paragon, during the 1980’s and1990’s, our primary focus was on growth.  Our objective was to grow our accounts as much as possible.   We controlled risk by monitoring the business cycle and the strength of individual companies and industries.

Since the economic meltdown of 2008 the challenges and number of risks to investors has multiplied.  Significant new risks are the result of the 14 Trillion Dollar Debt that our government has created.  Government debt has always been a concern. Recently it has moved past the “concern” stage and into the “critical” stage. I believe we are approaching a tipping point.

In 2010 the U.S. budget deficit was about $1.3 Trillion. To put that in perspective, $1.3 Trillion is close to the total amount of debt our politicians accumulated from 1776 to 1984. In one year, 2010, they added as much to the debt as they added over an entire 208 year period.

Current government projections show that from 2011 to 2019 they will add  $900 Billion to the debt –each year. If their projection is accurate then the debt will double by 2020, just nine years from now. A debt of that magnitude could potentially cause economic chaos. It would likely cause taxes to rise, benefits to fall and interest rates to go up.

Even now, our investment decisions are directly affected by the debt on a regular basis. Historically, political issues had little effect on our investments. Currently, they are the primary driver effecting the markets. For example, in July the political drama over the budget and our treasury bond rating pushed the global markets down. Recently, our trading has been driven by the political debt drama in Europe.

For savers, those that invest in savings accounts, CD’s, and annuities, life has gotten very difficult. There is not a saving option that is safe and pays a decent interest rate. It does not exist.

Those “safe” accounts pay between 0% and 2% and provide about the same benefit as putting the money under a mattress. With inflation running at 3.5% savers are  losing money on their investments. Each year, they watch their net worth lose value. If you consider the effect of taxes then it is even worse.

If you to move to bonds for safety, then your situation is potentially even worse. Bondholders have had a great ride for the past 30 years. Owning bonds as rates dropped from 17% to 2% worked extremely well and lulled bondholders into a false sense of security.

When interest rates start to increase, bondholders will see the value of their bonds decrease accordingly. For example, the owner of a ten year treasury bond yielding 2% will see their bond lose 10% of its value when interest rates go up only one percent. If rates go up two percent then they lose 20%. If rates go up three percent, then they lose 30%, and so on.

Investing in the stock market is much more difficult as well. It’s likely that only certain areas of the market will benefit depending on which economic and interest rate scenario plays out. Being in the wrong areas of the market will be costly.

So what should an investor do? Hiding the money in a bank isn’t the solution because of the effect of inflation. Moving to the safety of bonds doesn’t  really provide safety at all. For stock market investors, following the typical “buy and hold” advice that you hear from the big institutions is full of potential obstacles. Buying into gold which is priced for perfection, at the highest prices ever, doesn’t seem to make a lot of sense either.

Investing in the right place at the right time is more important than ever. Building wealth is first about preserving wealth and capitalizing on opportunities when they present themselves. I believe that in this environment that you must have a strategy in place that allows you to increase and reduce your market exposure as needed. You need to be able to move between market sectors when market conditions change. You must be flexible and able to adapt to the current market environment.

Disclaimer

Paragon Wealth Management is a provider of managed portfolios for individuals and institutions. Although the information included in this report has been obtained from sources Paragon believes to be reliable, we do not guarantee its accuracy. All opinions and estimates included in this report constitute the judgment as of the dates indicated and are subject to change without notice. This report is for informational purposes only and is not intended as an offer or solicitation with respect to the purchase or sale of any security. Past performance is not a guarantee of future results.

 

Crazy Day on Wall Street

Posted May 7, 2010 by admin. tags:Tags: , , , , ,
Greese

photo by eustaquio santimano

Written by Dave Young, President of Paragon Wealth Management

Yesterday we were reminded that investing in the stock market still involves volatility.

For the past 14 months we’ve seen a phenomenal rally off the March 2009 lows. Yesterday we saw the market “freak out” bringing back memories of the 2008 bear. The VIX increased by 60% yesterday and hit almost 41, which indicates extreme fear.

Why all the drama?

Greece hasn’t yet figured out that socialism doesn’t work and has come asking the more responsible Euro countries to bail them out of their financial mess. The other Euro countries agreed to bail them out with a 141 billion dollar package, but told them that they would have to cut back on spending and implement an austerity package. That caused rioting in the streets (the Greeks just wanted the money they didn’t want to cut back on anything). The rioting was picked up by the media and played over and over all day long.

The news and video from Greece caused traders and investors to assume the worst.

What if this rescue of Greece doesn’t work? What about the other “spend more than you have” countries like Italy, Portugal and Spain? Are they next? As traders assumed the worst, they panicked and sold their investment positions. That took the market down about 3%.

Then, just to make it interesting, there were some problems on the trading desks. No one is sure what happened, as it is still being investigated, but the rumor is that there were some huge trade errors that took the indexes down hard and fast. Then, just as fast as they went down, they recovered.

The market went from being down 3% to 5% to 10% in a matter of minutes. Then, just as fast as the market corrected itself, it returned to being down only 3%.

Even though the drop was temporary, the HEADLINE NEWS will most likely say that the Dow dropped 1000 points, which is the biggest drop since the 1987 crash.

So what’s next?

I wish I knew, but I don’t. In the very short-term (days), depending on the news, this market could move harder down or swing right back up. Yesterday’s market was very unusual.

I can speculate though. If this is like the majority of panic sell offs in the past 100 years, then calmer heads will prevail once traders decide that it’s not as bad as everyone imagines. If that occurs, then sometime in the next few days or weeks, the market will recover its losses.

On the other hand, perhaps we are on the beginning of a contagion that will take the market lower. No one really knows.

In the coming days the pessimists will be outlining “end of the world” scenarios and the optimists will ignore the market action altogether.

One thing for sure, if you act on your emotions you will likely do the wrong thing.

The bottom line, we won’t sell in a panic situation. That is always a mistake.

However, if this sell off does continue to unfold and gain momentum, then we will follow our models and rely on them to guide us through this.

Feel free to call us 800-748-4451 if you have any questions or concerns.

Paragon Wealth
Management
is a provider of managed portfolios for
individuals and institutions.  Although the information included in this
report has been obtained from sources Paragon believes to be reliable,
we do not guarantee its accuracy.  All opinions and estimates included
in this report constitute the judgment as of the dates indicated and are
subject to change without notice.  This report is for informational
purposes only and is not intended as an offer or solicitation with
respect to the purchase or sale of any security.  Past performance is
not a guarantee of future results.

Mistakes Investors Make and Why They Make Them

Posted August 26, 2009 by admin. tags:Tags: , ,
Money and Your Head

This is an excellent article about the mistakes investors make. It was taken from the Wall Street Journal Online. Feel free to leave comments.

 


photo by John Weber

 

The Mistakes We Make—and Why We Make Them

How investors think often gets in the way oftheir results. Meir Statman looks into our heads and tells us what we’re doing wrong.

Written by MEIR STATMAN

What was I thinking?

If there’s one question that investors have asked themselves over the past year and a half, it’s that one. If only I had acted differently, they say. If only, if only, if only.

Yet here’s the problem: While we know that we made investment mistakes, andvow not to repeat them, most people have only the vaguest sense of what those mistakes were, or, more important, why they made them. Why did we think and feel and behave as we did? Why did we act in a way that financial future.

This is where behavioral finance comes in. Most investors are intelligent people, neither irrational nor insane. But behavioral finance tells us we are also normal, with brains that are often full
and emotions that are often overflowing. And that means we are normal smart at times, and normal stupid at others.

The trick, therefore, is to learn to increase our ratio of smart behavior to stupid. And since we cannot (thank goodness) turn ourselves into computer-like people, we need to find tools to help us act smart even when our thinking and feelings tempt us to be stupid.

Let me give you one example. Investors tend to think about each stock we purchase in a vacuum, distinct from other stocks in our portfolio. We are happy to realize “paper” gains in each stock quickly, but procrastinate when it comes to realizing losses. Why? Because while regret over a paper loss stings, we can console ourselves in the hope that, in time, the stock will roar back into a gain. By contrast, all hope would be extinguished if we sold the stock and realized our loss. We would feel the searing pain of regret. So we do pretty much anything to avoid that pain—including holding on to the stock long after we should have sold it. Indeed, I’ve recently encountered an investor who procrastinated in realizing his losses on WorldCom stock until a letter from his broker informed him that the stock was worthless.

Successful professional traders are subject to the same emotions as the rest of us. But they counter it in two ways. First, they know their weakness, placing them on guard against it. Second, they establish “sell disciplines” that force them to realize losses even when they know that the pain of regret is sure to follow.

So in what other ways do our misguided thoughts and feelings get in the way of successful investing—not to mention increasing our stress levels? And what are the lessons we should learn, once we recognize those cognitive and emotional errors? Here are eight of them.

No. 1

Goldman Sachs is faster than you.

There is an old story about two hikers who encounter a tiger. One says: There is no point in running because the tiger is faster than either of us. The other says: It is not about whether the tiger is faster than either of us. It is about whether I’m faster than you. And with that he runs away. The speed of the Goldman Sachses of the world has been boosted most recently by computerized high-frequency trading. Can you really outrun them?

It is normal for us, the individual investors, to frame the market
race as a race against the market. We hope to win by buying and selling investments at the right time. That doesn’t seem so hard. But we are much too slow in our race with the Goldman Sachses.

So what does this mean in practical terms? The most obvious lesson is that individual investors should never enter a race against faster runners by trading frequently on every little bit of news (or rumors).

Instead, simply buy and hold a diversified portfolio. Banal? Yes. Obvious? Yes. Typically followed? Sadly, no. Too often cognitive errors and emotions get in our way.

No. 2

The future is not the past, and hindsight is not foresight.

Wasn’t it obvious in 2007 that financial institutions and financial markets were about to collapse? Well, it was not obvious to me, and it was probably not obvious to you, either. Hindsight error leads us to think that we could have seen in foresight what we see only in hindsight. And it makes us overconfident in our certainty about what’s going to happen.

Want to check the quality of your foresight? Write down in permanent ink your forecast of tomorrow’s stock prices. Do that each day for a year and check the accuracy of your predictions. You are likely to find that your foresight is not nearly as good as your hindsight.

Some prognosticators say that we are now in a new bull market and others say that this is only a bull bounce in a bear market. We will know in hindsight which prognostication was right, but we don’t know it in foresight.

When I hear in my mind’s ear a voice that says that the stock market is sure to zoom or plunge, I activate my “noise-canceling” device rather than go online and trade. You might wish to install this device in your mind as well.

No. 3

Take the pain of regret today and feel the joy of pride tomorrow.

Emotions are useful, even when they sting. The pain of regret over stupid comments teaches presidents and the rest of us to calibrate our words more carefully. But sometimes emotions mislead us into stupid behavior. We feel the pain of regret when we find, in hindsight, that our portfolios would have been overflowing if only we had sold all the stocks in 2007. The pain of regret is especially searing when we bear responsibility for the decision not to sell our stocks in 2007. We are tempted to alleviate our pain by shifting responsibility to our financial advisers. “I am not stupid,” we say. “My financial adviser is stupid.” Financial advisers are sorely tempted to reciprocate, as the adviser in the cartoon who says: “If we’re being honest, it was your decision to follow my recommendation that cost you money.”

In truth, responsibility belongs to bad luck. Follow your mother’s good advice, “Don’t cry over spilled milk.”

Where am I leading you? Stop focusing on blame and regret and yesterday and start thinking about today and tomorrow. Don’t let regret lead you to hold on to stocks you should be selling. Instead, consider getting rid of your 2007 losing stocks and using the money immediately to buy similar stocks. You’ll feel the pain of regret today. But you’ll feel the joy of pride next April when the realized losses turn into tax deductions.

No. 4

Investment success stories are as misleading as lottery success stories.

Have you ever seen a lottery commercial showing a man muttering “lost again” as he tears his ticket in disgust? Of course not. What you see instead are smiling winners holding giant checks.

Lottery promoters tilt the scales by making the handful of winners available to our memory while obscuring the many millions of losers. Then, once we have settled on a belief, such as “I’m going to win the
lottery,” we tend to look for evidence that confirms our belief rather than evidence that might refute it. So we figure our favorite lottery number is due for a win because it has not won in years. Or we try to divine—through dreams, horoscopes, fortune cookies—the next winning numbers. But we neglect to note evidence that hardly anybody ever wins the lottery, and that lottery numbers can go for decades without winning. This is the work of the “confirmation” error.

What is true for lottery tickets is true for investments as well. Investment companies tilt the scales by touting how well they have done over a pre-selected period. Then, confirmation error misleads us into focusing on investments that have done well in 2008.

Lottery players who overcome the confirmation error conclude that winning lottery numbers are random. Investors who overcome the confirmation error conclude that winning investments are almost as random. Don’t chase last year’s investment winners. Your ability to predict next year’s investment winner is no better than your ability to predict next week’s lottery winner. A diversified portfolio of many investments might make you a loser during a year or even a decade, but a concentrated portfolio of few investments might ruin you forever.

No. 5

Neither fear nor exuberance are good investment guides.

A Gallup Poll asked: “Do you think that now is a good time to invest in the financial markets?” February 2000 was a time of exuberance, and 78% of investors agreed that “now is a good time to invest.” It turned out to be a bad time to invest. March 2003 was a time of fear, and only 41% agreed that “now is a good time to invest.” It turned out to be a good time to invest. I would guess that few investors thought that March 2009, another time of great fear, was a good time to invest. So far, so wrong. It is good to learn the lesson of fear and exuberance, and use reason to resist their pull.

No. 6

Wealth makes us happy, but wealth increases make us even happier.

John found out today that his wealth fell from $5 million to $3 million. Jane found out that her wealth increased from $1 million to $2 million. John has more wealth than Jane, but Jane is likely to be happier. This simple insight underlies Prospect Theory, developed by Daniel Kahneman and Amos Tversky. Happiness from wealth comes from gains of wealth more than it comes from levels of wealth. While gains of wealth bring happiness, losses of wealth bring misery. This is misery we feel today, whether our wealth declined from $5 million to $3 million or from $50,000 to $30,000.

We’ll have to wait a while before we recoup our recent investment
losses, but we can recoup our loss of happiness much faster, simply by framing things differently. John thinks he’s a loser now that he has only $3 million of his original $5 million. But John is likely a winner if he compares his $3 million to the mountain of debt he had when he left college. And he is a winner if he compares himself to his poor neighbor, the one with only $2 million.

In other words, it’s all relative, and it doesn’t hurt to keep that in mind, for the sake of your mental well-being. Standing next to people who have lost more than you and counting your blessings would not add a penny to your portfolio, but it would remind you that you are not a loser.

No. 7

I’ve only lost my children’s inheritance.

Another lesson here in happiness. Mental accounting—the adding and subtracting you do in your head about your gains and losses—is a cognitive operation that regularly misleads us. But you can also use your mental accounting in a way that steers you right.

Say your portfolio is down 30% from its 2007 high, even after the recent stock-market bounce. You feel like a loser. But money is worth nothing when it is not attached to a goal, whether buying a new TV, funding retirement, or leaving an inheritance to your children or favorite charity.

A stock-market crash is akin to an automobile crash. We check ourselves. Is anyone bleeding? Can we drive the car to a garage, or do we need a tow truck? We must check ourselves after a market crash as well. Suppose that you divide your portfolio into mental accounts: one for your retirement income, one for college education of your grandchildren, and one for bequests to your children. Now you can see that the terrible market has wrecked your bequest mental account and dented your education mental account, but left your retirement mental account without a scratch. You still have all the money you need for food and shelter, and you even have the money for a trip around the country in a new RV. You might want to affix to it a new version of the old bumper sticker: “I’ve only lost my children’s inheritance.”

So here’s my advice: Ask yourself whether the market damaged your
retirement prospects or only deflated your ego. If the market has
damaged your retirement prospects, then you’ll have to save more, spend less or retire later. But don’t worry about your ego. In time it will inflate to its former size.

No. 8

Dollar-cost averaging is not rational, but it is pretty smart.

Suppose that you were wise or lucky enough to sell all your stocks at the top of the market in October 2007. Now what? Today it seems so clear that you should not have missed the opportunity to get back into the market in mid-March, but you missed that opportunity. Hindsight messes with your mind and regret adds its sting. Perhaps you should get back in. But what if the market falls below its March lows as soon as you get back in? Won’t the sting of regret be even more painful?

Dollar-cost averaging is a good way to reduce regret—and make your head clearer for smart investing. Say you have $100,000 that you want to put back into stocks. Divide it into 10 pieces of $10,000 each and invest each on the first Monday of each of the next 10 months. You’ll minimize regret. If the stock market declined as soon as you have invested the first $10,000 you’ll take comfort in the $90,000 you have not invested yet. If the market increases you’ll take comfort in the $10,000 you have invested. Moreover, the strict “first Monday” rule removes responsibility, mitigating further the pain of regret. You did not make the decision to invest $10,000 in the sixth month, just before the big crash. You only followed a rule. The money is lost, but your mind is almost intact.

Things could be a lot worse.

–Mr. Statman is a professor of finance at Santa Clara University in Santa Clara, Calif. He can be reached at reports@wsj.com.

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