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The secret to success is not a secret

| October 03, 2022

Your outlook on life determines so many things. The stock market is no exception.

Now, we can’t control the market, nor do we know where it will be from day to day. We can control a few things that will ultimately determine whether we will be successful or not.

The first thing we can control is putting a plan in place that is conservative enough to give us a high degree for that success. You know what they say, “Failing to Plan is Planning to Fail”. Next week Andrew will discuss some planning topics that are useful in all market environments, but specifically given the markets we are in today. You’ll want to read that next week.

Another thing that we can control is our allocation. How much risk we are taking to achieve a given level of return. The important thing about this is it should allow you to sleep well at night and not worry about market fluctuations. We all know this, but risk and return go hand-in-hand and are tied to your financial plan. We use Riskaylze as a tool to score all portfolios from 1-99 (with 1 being the most conservative and 99 being the most aggressive). See an example below.

The problem with risk is it is a one-sided problem. Nobody complains about taking too much risk when it’s to the upside. It’s only during times like this that we start to question how much risk we are willing to take.

But as you know, there have been many of these periods like this over the years, whether it’s been 2000-2002 Tech bubble, the 2008 Financial crisis, 2018 attempt at quantitative tightening, or 2020 COVID (Jeff can list many more, having been at this since 1987!). We all remember these periods, but when we are going through these times is when our emotions are most acute to portfolio volatility. That brings me to the real point of this week’s note.

You can have the best financial plan and take the perfect amount of risk to achieve your goals, but if your emotions get away from you, you are susceptible to making decisions based on those emotions

We said over the years that most people are not very good at keeping their emotions in check. Those that can are usually very successful in this business. The most obvious example is Warren Buffett. We have quoted him many times over the years. Here are a few that we haven’t referenced before, but that are applicable to our conversation today.

Whether you’re developing a plan for a business, workout strategy, or an investment portfolio, having the right mindset is critical to success. Even when things seem stacked against you, sticking with your plan and exercising the mental toughness to get through the tough times. And yes, this is one of those times where things are difficult, but yes, we have a plan developed in conjunction with you and we will try our hardest to keep you focused on the end goal and not giving up before you reach those goals.

That being said, let’s look at how everybody else is acting and feeling.  We have discussed in the past ‘smart money’ and ‘dumb money.’ We want to be the ‘smart money’.

Our good friends at SentimenTrader have a smart money/dumb money index to try to get a feel for fear in the markets.  Let’s look at where they’re at.

You can see that historically speaking, when this index is above 55 (which it is now), the annualized returns are 55%. Does that mean we are going to get that type of return this time? Nobody knows, but it is a good indicator of the fear in the markets and also the value that is present in prices.

The AAII Sentiment index is showing three times as many bears as bulls in this market. Historically that is extreme. Not only that, but you can also see above that that ratio has been elevated for the better part of a month. Remember the quote from Warren Buffet that we use often, “Be fearful when others are greedy and greedy when others are fearful.” Today three times as many are fearful (bearish) than greedy (bullish). Where do you find yourself?

Here is another gauge of fear. You can see this is also in the extreme fear range and has been over the last month.

Our job is to help develop a plan that meets your goals, while walking along side you during times of stress. That could be market stress, loss of a job, loss of a spouse or loved one – you name it. We have been there during many of these times, and we will continue to be there for you. Remember one of Andrew’s quotes, “A good guide is better than the best map”.  We hope to be that good guide.

The mistake we all can make now is to act out of emotion rather than facts and sound judgement. This is not to say that we don’t make adjustments and follow our model. This might mean reducing risk in the portfolios, but it also means that we don’t make those adjustments out of fear. We aim to be the ‘smart money’ by not just following the sheep over the cliff. We’ve been here before and we are better because of our experience going through past cycles. This one is different than others, but our emotions are just as acute as any of those past downturns.

We will work to keep our emotions in check and happy to discuss those same emotions with you. Thanks for reading. Have a good week, especially as the Mariners start the playoffs on Friday!!! Let us know if you have any questions about the market or larger planning issues.