Almost 20 years ago, George Costanza pitched a novel idea for a television show: “Nothing happens!” he gleefully told puzzled NBC executives. You might not want to let this Seinfeld scene inspire your investment strategy.
In today’s environment, investors might think they don’t want to make any choices while things — the European crisis, U.S. unemployment, Washington — are so crazy. But a “nothing happens” investment strategy is itself a choice that might not be the best one.
Below are samples of investor sentiments and why they may create the wrong long-term strategy.
– I am staying in cash until the market comes back. The market is mercilessly efficient, meaning it does a very good job of pricing equities accurately. So by the time most of us feel confident enough to purchase a stock or a fund, our optimism is already reflected in the asset, so we are getting less of a value than we might have earlier.
Stocks generally anticipate the future, which is why they can tend to rise when things are hopeless, and fall when optimism abounds. No single strategy can be summed up by a pithy quote. But here’s one by Warren Buffett to keep in mind: “Be fearful when others are greedy, and be greedy when others are fearful.”
– I really like that company, but I am not going to buy the stock until it rebounds. Unless you are a technical investor who analyzes stock movements to guide purchases, investing is simply the purchase of a fractional piece of a business at a listed price. That makes waiting for a price increase irrational. Think about the major purchases you’ve made in your life and how much sense that makes. Imagine finding the house of your dreams, but saying to the Realtor, “I really love it but I am going to wait a few months because I’d really like to buy it at a higher price.”
– I am not going to buy stocks until they go down more. One challenge with investing is no one rings a bell when a stock hits a low. If an investor wants to wait until the price earnings ratio of a stock falls below 12 or its dividend yield creeps above 4 percent, that is a buying discipline. The investor takes ownership even though he or she knows the price could well go lower. The investor is not trying to “call the bottom.”
But if the investor has set an arbitrary and deeply discounted buying price unhinged from any metric, the investor might miss the opportunity to buy a good business at a reasonable price.
– I am just holding what I own and not making any decisions. No decision is a decision. On Wall Street, analysts’ recommendations can be in several categories: Strong Buy, Buy, Hold, Sell and Strong Sell. But really there is only one question that an investor needs to answer: “Given what I know today, how much of this investment do I want to own?”
Again think of your other major investments: You don’t have a “strong buy” rating on your house, a “buy” rating on your car or a “hold” rating on your kids’ college savings account. You decide every day to own these assets until the day comes when you decide not to own them. Don’t kid yourself into thinking you are doing nothing. As an investor, you are doing something every day.
– I am not taking any chances. All of my money is in CDs. Of all these sentiments, this one may create the cruelest illusion of security. Give your retirement funding strategy a stress test. Generally, financial advisors have robust analytical tools. Two of the most critical variables are Rate of Return and Inflation.
One example: A 55-year-old man plans to retire at 66 and live until 95. He has $1.5 million divided evenly into qualified and non-qualified accounts, and needs $100,000 a year for retirement living expenses. He’s going to save $20,000 a year in his 401(k) until he retires, get $18,000 with his spouse in Social Security during retirement and pay 25 percent in taxes. With a 7 percent rate of return and 3 percent inflation rate, he’s fine. In fact, the kids and the grandkids will inherit $2.2 million.
But cut the return rate to 6 percent and increase the inflation rate to 4 percent and the man is $4.2 million in debt when he dies. That’s a $6 million swing. Because CD rates can be low and inflation rates can be high, being only in CDs could end up being a risky move.
Doing nothing is not always the wrong thing to do. Sometimes it does make sense to stand pat. Maybe you have an investment strategy that you’ve double-checked and that you think will lead to good results in line with your risk appetite.
If nothing is the right thing to do, then by all means do nothing. The key is to make sure that action or inaction is the result of a conscious decision.
The truth about Seinfeld, and about investing, is that a lot of things can happen — even when nothing happens.
Sean Somerville is a Financial Advisor with RBC Wealth Management in Hunt Valley. He can be reached at 410-891-5031 or firstname.lastname@example.org. RBC Wealth Management is a subsidiary of RBC Capital Markets LLC. Member NYSE/FINRA/SIPC.