Opinion: How to be a disciplined investor

Kenny Gott

Whatever your investment strategy, there will always be distractions to knock you off track. This is especially true right now with markets and economies all over the map, and an expert around every corner – and none of them can agree on what the future holds.

Here are three basic principles of disciplined investing.

1. Hold tight when markets are volatile. Market downturns are normal. In fact, they happen about 25% of the time. But nervously selling shares at a depressed price, thus locking in losses and running up unnecessary trading expenses, is the opposite of a sensible long-term strategy. “Selling low” is rarely advisable unless you’re harvesting a tax loss, which is an advanced technique. Capitalism is profitable over the long term, and your market investments will participate in that growth if you simply let the markets do their job and don’t get spooked by downturns.
2. Don’t chase returns. It’s easy to find a stock, mutual fund or market sector that beat the overall markets last year. Moving into those investments now may or may not result in similar performance, because it’s true that past performance does not predict future results – and again, the transaction costs of chasing returns may needlessly erode performance. So don’t fall for anyone pointing to performance charts and implying their fund or stock picks will outperform on an ongoing basis. This is a common trick to lure investors away from what may be a perfectly sensible portfolio – and/or your current adviser. Instead, use efficient, low-expense holdings, such as passive index funds, to build a well-diversified portfolio that matches your risk tolerance and is positioned for the long-term average growth needed to fulfill your goals. Then let the markets do the rest.
3. Ignore the media gurus. Don’t rush to buy “hot” stocks you hear about on TV or radio. And ignore the predictions of market crashes based on news events, presidential elections or market patterns. A 2012 study by CXO Advisory Group scored 6,582 predictions by 68 “experts” in the media and found their success rate to be about 47% – worse than a coin flip. And by the time you complete the purchase of a “hot” stock, the price may have already spiked – ironically in some cases because of a TV guru’s comments – so you could suffer a loss when the price drops back to normal.

When a client calls asking if they should invest in a stock they heard great things about on TV, the answer is always the same: a recap of the previous paragraph.

Of course, those “expert” tips do pan out sometimes, and a client never lets us forget it. But likewise, we never regret advising them to stick with their efficient, diversified portfolio, which has done well over time.

And in many cases, those “hot” stocks are already included in one of their funds, with about the weight they’ve earned in the capital markets.

As for predictions of market drops, of course some of them will turn out to be correct because markets do vary, but no one has ever consistently predicted the markets over the long run. Ever. Market timing just doesn’t work.

Instead, always assume the next recession could start tomorrow. Allocate holdings based on your risk tolerance, but protect enough cash from the markets to get you through a recession without having to sell stocks at a low price. Then when markets do drop, remind yourself that you’re prepared, so there is no reason to panic.

And most importantly, have a long-term investment plan that is primarily centered around your income needs and that accounts for inflation, early death and other bad-case scenarios. If your plan is on track, you can ignore temporary market swings.

If you’re a do-it-yourselfer, you have to carry that important self-discipline load yourself. Don’t make sudden movements before studying hard.

Certified financial planner Kenny Gott is president at Piatchek & Associates and author of the book “Bottom Line Financial Planning.” He can be reached at kgott@pfinancial.com.