When you embark on life as an expat the everyday can be exciting. All the differences can make the mundane seems new and fun - the excitement of cultural difference. The downside to this is the low-level angst of not necessarily knowing how things are done in your new home. Maybe getting it not quite right will be considered cute, maybe a mild social faux pas, or maybe it can have a more material impact on your life.
Managing your money is one such area where it can have a material impact and where it is important to understand the details. Whether you are adapting a well-thought-out plan to your new life abroad or taking the opportunity of the change in your life to put some objectives and structures in place, similar principles apply.
First, the constant noise. Whenever we write about investment markets and the economy - and this has held true for us for 25 years - there is always something happening that has an influential impact on the markets and short-term investment returns. These events or factors are often described as extraordinary, but if we take a step back and look at the longer term, we see there is a consistent sequence of events, one after the other. Some are positive, some negative.
For this to make sense, we need to agree on the principle that investment markets go up over time, but not in a straight line. Another way to say this is that time reduces volatility and the likelihood of losses, and what looks like bumpy markets across a short time period can be smoothed out when looking at a long time period.
What might look like this in the short term:
Will look more like this in the long term:
Therefore, our response to short-term market movements should be to look at our investments and what is happening in the world relative to our goals and the timeframe of those goals. If your key goal is 15 years away, a short-term fluctuation now might be irrelevant.
The second principle is recency bias. This means we ascribe more importance to events that are happening now but will quickly forget them when the next items in the news cycle arise. As an example, here in 2024, there are very few people talking about the market drop of February 2020, although at the time it was grabbing all the headlines.
Within this context, it challenges us to think how one should manage investments in a constantly changing environment. This is all the more important because we are living outside of our home country.
Also, let’s consider the investor bias called the momentum investor. When we shop, we are quite comfortable with the idea of buying items when they are on sale rather than when they are at their maximum price. When it comes to investing, though, if we follow the momentum investor bias, we are much more inclined to wait until an investment has already gone up (increased in price) before investing.
It is not difficult to understand the rationale. If we wait until something has increased in price, it feels like a proven and safer investment - it has a track record. What this often means, though, is buying at the top of the market. One of the most often repeated phrases when giving financial advice is that past performance is no guarantee of future performance. Just because an investment has risen in value does not mean it will continue to rise at the same rate.
Following this pattern, the investor bias kicks in again when prices drop, meaning we may be less likely to buy, even though that asset may be considered as being “on sale”. In fact, we may feel inclined to sell. The momentum investor gets increasingly worried as prices drop. The image below shows some of the bias responses that can take over from good decision making.
If you look at the worst-case scenario in this illustration, our hapless investor liked an investment (the green comments on the left) but waited until it was “proven” and bought near the top of the market.
They panicked at the first sign of market volatility and then as the investment moved through the market cycle and the downturn, they fell into the trap of thinking the prices would fall forever. After much hand-wringing they finally sold right near the bottom of the market before, inevitably, the prices recovered.
The alternative path would have been to invest in an asset that was appropriate for their goals and plans, and to not sell them at all. Over time, the asset would have increased in value. This is of course hypothetical, but it illustrates how momentum can lead us to make reactive decisions.
Investment theory states that, for investment success, we should buy low and sell high - the opposite of what we have described above with the momentum-driven investor. In practice, this is a difficult - indeed, almost impossible - thing to do. We maintain it is not possible to time the market, consistently and accurately.
As an extension of this, we believe there is much more value that you can add to your investment (at a considerably lower risk) by consistently following a structured plan across market cycles, than there is in trying to time peaks and falls.
It is important to remember that the purpose of investing is to achieve your long-term objectives. Investing is a means to an end, not the end in itself. So, the most important question is not whether there is a short-term opportunity but whether your investments and investment plan are aligned for you to achieve your goals. If your focus is the long term, focus on the long term!