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On magnitude of losses, duration of market declines and crossing roads

7 Comments

I read a blogger’s this week’s take on whether we have what it takes to withstand the bear market. I agree whole heartedly that knowing, being educated is one thing but doing it is another thing.

Its like understanding that jumping out of a helicopter with a parachute and the proper procedure and another matter jumping out all together. I learnt this from my commando friend that a lot of macho man freeze at the door before they jump out.

Its easy to talk about percentages of losses but we forget that we visualize our gains and losses in the magnitude of actual dollar and cents. A study shows that when we look at investment gains and losses in dollar and cents its rather different than percentages. We become much less tolerable.

When your portfolio is $250k and its left with $125k, what goes through your brain is that “I just let $125,000 stupidly disappear like that”. Some folks with shorter time horizon, such as retirees who need to draw down in the near term will have an issue.

The solution to these is to de-risk and ensure a proper asset allocation mix of less correlated asset classes. Bonds might look bad when interest goes up but if you are holding bonds to maturity, you missed out on opportunity cost. Getting from point A to point B is more important than chasing something big and dropping out along the way.

I note the mentioned that markets always come back up fast. However, there are a recent instance where i felt it could really testing. Imagine a drastic draw down in 1997 follow by one three years later in 2000 which last to 2003, and at the onset of recovery, succumbed to a period where a deadly disease ran amok. That can be a close enough sequence. In the case of 2000 to 2002, i remember 3 relatively equal size 10-20% drawdown slowly taking the life out of us.

Poor markets usually is accompanied by poor mainstreet and the threat to your job prospects and employment is not going to be good for the morale. The mood of society was very negative. You might not go through what you plan to do .

It is this period where brave stock market heroes emerge. 

I felt that there isn’t really irrational exuberance right now. People perhaps are looking for evidence to justify that we are complacent.The market didn’t even get confident in the first place.

Lastly, there was a gentlemen who mentions about CLOB. Thank you for that. A timely reminder that 100% drawdown is very very possible.

Everyone cannot take risks. People differ by their appreciation and understand of risks. A 30 year old man cannot say he is alright to be hit by a car while crossing the road and a 4 year old boy is not alright to be hit by a car while crossing. The risk is the same, being hit by the car. Where it differs is a 30 year old’s understanding of the situation and a 4 year old’s assessment of the situation.

As you get more experience you tend to be a bit more skeptical compare to last time because you seen more out of wack scenario to know these things happen. It doesn’t always help you because it makes you missed brilliant opportunities, but in general it saves you from many shitty ones.

We just hope we learn well along the way.

Kyith
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Jes

Monday 24th of November 2014

Hi Kyith,

Knowledge is good but knowing doesn't really prevent one from making the same mistake. That's the thing about investing, we will only truly learn when we make a loss..

Kyith

Tuesday 25th of November 2014

Hi Jes,

Actually knowledge does. Give an example. Some people likes to buy a stock that is almost going to go ex dividend for the dividend . they may not realize that the price have already factor in the dividend. So knowledge here helps them. Another example is before knowledge u think this company Is the best in the world, after knowledge u realize u been looking at it with the wrong lens.

It is only when u let emotion cloud your decision. U still buy these despite what I say are immutable truths. Can't help u there.

Knowledge helps u build certain prevention mechanism into doing stupid things. It prepares u to last a 4 year poor market which is a long duration by putting in an automation plan.knowledge tells u that the worse part of the bear is not selling at a loss, but not getting back in fast enough . knowledge tells u bear and a corrections are hard to tell and only clear in hindsight and have a plan for it.

Always be a sponge.soak up.

Tak

Monday 24th of November 2014

Have faith, stay strong (:

LP

Monday 24th of November 2014

Totally agree. Disaster seldom occurs alone, but our skewed perception of a low-probability event means that we are usually prepared for 1 major blow. Everybody can take one major blow, especially when we're prepared for that one blow. Experience tells me major blows are dealt in groups of 2 or 3. It's like the stock market crashes AND your job is hanging by a thread AND you just had a newborn. What's the chances of that happening? But it'll happen, and often enough to make me worry. So I cringe all the time whenever someone says that putting in the stock market for the long term you'll get 8% returns, like it's a guaranteed thing. The only way to know if we can act when a bear comes is to go through it. Any other things is just talk. You can be brave because you know the odds is in your favour, or you can be brave because you're ignorant of the risks involved. Let's not be latter one.

Kyith

Monday 24th of November 2014

Yes i think its important to visualize that the compounded returns is not a gradual straightline.

B

Monday 24th of November 2014

I guess risks to oneself amplified when there is severe bear market like the AFC or GFC. Even when you think that your job is mostly secured, suddenly it gives you a double whammy smack that there may be potentially restructuring on the cards.

Kyith

Monday 24th of November 2014

yup thats right.

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