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Why Individual Investors Lag Returns
Why Individual Investors Lag Returns2013-05-03 Investors can find good funds and enjoy solid returns for a long time but other times, investors have a poor experience, even in a fund with great returns. Investors can find good funds and enjoy solid returns for a long time but other times, investors have a poor experience, even in a fund with great returns. Primary reason - people don't get in until after the fund has put up huge returns. This happens because most research available to small investors is only looking backwards. Then, as often happens with assets that jump in value, the fund falls flat, and disgruntled investors flee. Big increase in value and then big declines brings emotions ranging from greed and envy to fear and anger. The more emotional investors get, the worse their decisions will be. The past two bear markets are perfect examples of these behaviors. Based upon asset flow data, as stock markets soared, investors bought stock funds heavily, only to see their investments plunge in the ensuing bear markets. Then, they bailed out of the funds close to the bottom, only to miss the big rebounds.
The real-world returns investors experience in the funds often don't resemble the funds' published returns. The difference between the two returns is “behavior gap” and small investors are usually on the lagging end of the gap because of their poor timing of when they buy and sell their funds. Investment advisors, financial planners, and brokers exist to help investors meet their goals. A key part of their service is not money management but being able to assist with the “behavior gap”. It's not an easy task. Greed and fear are emotions hard-wired in our brains. And, of course, it isn't just individual investors making these mistakes. Institutional investors are guilty of the same behaviors. Just follow the boom-and-bust cycles of private equity and venture capital, or performance chasing of hedge-fund buyers.
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