Investor behaviour and opportunities

Most times in life when we are looking to buy something, we view falling prices as a positive factor. If we want to buy a new TV, furniture etc, we often wait for the sales to get better value for money. If we are planning to buy property, we will take advantage of falling property prices to make the purchase then.

When it comes to equities, however, many people behave very differently. Falling prices make them fearful and they refrain from buying shares at that time – they may even sell the ones they have. Inversely, they see rising prices as a good thing and buy shares when prices are high.

John Templeton, quoting the famous American investment specialist Benjamin Graham, said: “Buy when most people … including experts … are pessimistic, and sell when they are actively optimistic.” That can be easier said than done, though, when we are bombarded with media reports and it is our own hard-earned wealth we are considering.

Emotions play a large part in investor behaviour. As the prices of an asset rises, investors are attracted by the returns they have seen and buy this asset. They do not mind paying more than they would have done a few weeks before because they still expect to make a profit.

However, if you have ever seen the “cycle of market emotions” graphic, the point of “euphoria”, when prices are highest, is also the “point of maximum investment risk” when it is most likely that prices will start to come down. So many investors find they have bought when prices were highest.

Likewise, as markets fall investors get fearful. Many existing investors sell their shares, causing further falls. People with money to invest sit on the side lines, waiting until they feel confident that prices are back on an upward path.

However, when markets are lowest, the point of “despondency” is also the “point of maximum financial opportunity”.

Although stockmarket volatility can be uncomfortable, it can bring value back to the markets and create opportunities. If you have capital to invest, share prices falling can be a good time to buy. You can potentially buy more shares with your money; shares that will rise in price once the downturn ends.

If you are still concerned the market may fall further – even though it could instead rise – you could apply the principle of ‘pound cost averaging’ (or euro or dollar), where spread out entering the market over time.

The principle of pound cost averaging notes that if you invest, say, a third of your money on one date, a third two months later and the balance two months after that, the average of your investment will provide comfort that you are not unduly exposed to the risk of the market falling the day after you buy and a better opportunity having arisen.

As history shows, markets always recover eventually. Declines over the last five decades have been followed by upturns which, on average, have been longer lasting and with gains larger than the losses preceding them.

What we cannot know in a downturn is when markets will hit the bottom. If you keep waiting, you will probably miss the upswing, often when price increases are sharpest. Do not risk waiting too long. Make your investment but be prepared for further short-term volatility and to hold your investment for the longer-term.

We do not generally advocate ‘timing the markets’ – it is ‘time in the market’ that counts – however this does not mean that those with capital to invest should ignore the opportunities presented by falling markets.

If you are invested for the long-term, your portfolio should ride out temporary market volatility. A chart from Blackrock1 shows how a £10,000 hypothetical investment in the FTSE All-Share Index would have grown to £71,602 in the 25 years 1989-2014. This was in spite of events like September 11, the subprime crisis, Lehman Brothers collapse and European sovereign debt crisis.

As always, your investment strategy and choices should be dictated by your specific personal circumstances, aims, time horizon and an objective assessment of your attitude to risk.

Diversification is critical in determining the success of your portfolio. You need a well spread portfolio, across asset classes, geography, market sectors etc.

Investing for the long-term does not mean investing and forgetting. It is critical to review your portfolio on a regular basis and adjust the strategy accordingly.

Last but not least, build up a good relationship with your financial adviser, so they understand your needs and concerns and will guide you through market turbulence as needed.

1. From Blackrock’s brochure “Weathering Uncertain Markets – Learning from the past, positioning for the future”.

These views are put forward for consideration purposes only as the suitability of any investment is dependent on the investment objectives, time horizon and attitude to risk of the investor. This article should not be construed as providing any personalised investment advice.

By Gavin Scott
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Gavin Scott, Senior Partner of Blevins Franks, has been advising expatriates on all aspects of their financial planning for more than 20 years. He has represented Blevins Franks in the Algarve since 2000. Gavin holds the Diploma for Financial Advisers. |