The current Coronavirus scare is a salient lesson in why making investment decisions on this type of news is a dangerous game. The odds are stacked heavily against getting it right.

Financial markets are hardwired to go up. As a species, human beings are optimists, and we’re constantly improving our lot. We get things wrong but get it right much more often. That’s why financial markets consistently reach new highs. 

But we are emotional too, and do things out of fear. Sometimes it’s the right thing to do, but usually, it’s wrong. And those mistakes can be very expensive. 

And we like to make mistakes together. If it’s in the news, we feel compelled to act, and it feels good to do what everyone else is doing. We feel guilty doing nothing when often that’s exactly what we should do. 

In investing, it’s easy to behave like a lemming, with apparent strength in numbers, even though we all know what happens to lemmings!

Right now is a case in point. Markets hate uncertainty and fear, and little gets people more scared than a pandemic. 

But in these times I’m reminded of a famous investment quote; ‘short term the markets are a voting machine, but long term they’re a weighing machine’. Markets will go down on fear, and they are right now. But they rise again on logic. 

This has proven to be the case again and again. In the US stock market, there have been corrections (ie, the market dropping by at least 10%) on average every 1.9 years. 

Corrections are normal, but they all go away in time. Of the 37 corrections in the US market since 1950, the average period in a downturn (ie., more than 10% below the previous high) was a little over 6 months. In all cases, the market then reached new highs.

And in disease-related stock market corrections (eg. SARS, Ebola, Avian flu), the range has been a 6-12% drop, with a swift correction. In 1918 the US Stock market was down 11% on fears of the consequences of Spanish Flu. A year later it was up 30%. 

In my experience, the only enduring bear markets have been those generated by the financial industry itself ie. the Great Depression and the Global Financial Crisis. But even then, the markets rose in time to new highs. 

And those who continued to invest after the market initially fell did very well indeed. That’s because humans are optimists and always improving their lot, and the financial markets ultimately reflect this. 

Fear suits some in the financial markets, especially those who need reasons to trade so they can charge trading and brokerage fees. A sad reality is that trading activity is still how many in our industry get paid. Have you ever heard a stockbroker say ‘you’re all set, let's do no trades for a few years’? 

Many advisors charge in a way that is more about fair than fear. But some are hard-wired to want you to be scared, and trade. Investors need to be wise about this.

And even if trading on fear feels necessary, data shows even the professionals can’t do it well. Research from Standard and Poors shows that fund managers actively trying to beat the market win about 20% of the time, and it’s often much worse. 

Would you place a bet on anything knowing you had only a 20% chance of winning? You would if you can charge your clients a high fee to do so, which is what happens.

And random events, like Coronavirus, expose even the best investment strategies. In my career I’ve seen the smartest and brightest, with the most powerful computers, beat the market spectacularly for a while, only to trip up when something completely unpredictable happens, like Coronavirus. 

It was the same with 911, SARS and the Global Financial Crisis. Nearly all of the ‘professionals’ failed to deliver on their promise of profiting in volatile times.

Often market timers will say ‘it’s all very well in a bull market, but when we’re in a bear market or in times of crisis, we will sell quickly and buy at the bottom again’. Actually the reverse is true. Standard and Poors show active managers actually do worse when markets go down. Why? Nobody knows for sure, but one factor is likely to be fund managers getting caught in the same headlights and trading on fear. 

Fund managers can be lemmings too, in expensive suits %)

And picking market direction is fiendishly hard. JP Morgan found that 50-60% of the best days in the market were within a few weeks of the worst days. And missing the top 10 days in any 20 year period effectively halved your returns. Who can get that right? 

Not even Warren Buffet, easily the world's most famous investor, thinks the average investor can beat the market. His advice is to buy the whole market via index funds, keep buying, and effectively ignore the headlines. 

We saw this in New Zealand at the end of 2018 and the beginning of 2019, when markets globally dropped sharply, for reasons few had predicted. When the markets bounced back just as quickly, active KiwiSaver funds underperformed managers who did nothing. 

It’s emotionally easy to sell investments when you’re scared and markets are going down, but extremely hard to ‘buy at the bottom’, when the fear is at its peak. It feels scary.

The data shows that time and time again professional investors have been too slow to re-invest when the markets bounce back. And if the professionals can’t get it right, how can anyone else?

Your best friends in nervous times like these are patience and diversification. Our Conservative, Balanced and Growth funds, both KiwiSaver and Investment funds, have over 3,000 investments in 23 countries. And as most members are invested for the long term, our funds reflect that.

I’m reminded in these times of some sage words from a mentor - ‘Never a hurried buyer or seller be’. So keep calm, and carry on %)