The behavior of unrushed versus impulsive investors often mimics those of our pets
When I was a young boy we had a family pet, a Dalmatian named Gypsy, unique because she had only one spot, a patch over one of her eyes. My most vivid memory of Gypsy was the time she spotted six frozen uncooked hot dogs that my mother left on the countertop to thaw. Before anyone could react, Gypsy grabbed the hot dogs and wolfed them all down. Needless to say, Gypsy wasn’t feeling well for a while after that.
Today we share our family home with Jasper, a Siamese cat. Unfortunately, Jasper recently had an accident that required hip surgery and a leg cast. We’ve been giving her 24/7 attention and she is recovering nicely. Since she is less mobile than she was, my wife offered up her iPad for Jasper’s use, and we found an eight-hour video for cats on YouTube, mostly showing birds coming and going, and the occasional squirrel. Jasper loves it and sits quietly for hours watching the video.
It occurred to me that many investors are a lot like either Gypsy or Jasper, and the type of investor you are matter a lot. Let’s start with the dog investors. They have a short attention span. Whatever is currently in front of them catches their interest, the hot stocks of the moment. We’ve recently seen a lot of them, like GameStop, AMC, Blackberry, and many others. These otherwise sleepy stocks were left out on the countertop, and for no easily discernable reason related to fundamental values, many investors gobbled them up.
For these dog investors there was short-term euphoria as the stock prices climbed to unimaginable heights. But then the reckoning came as the prices fell back to earth. Why buy these stocks in the first place, if there wasn’t a fundamental valuation reason for doing so? For many of these dog investors, there wasn’t any thought of the long-term and fundamental value, but rather the price paid today didn’t matter if they thought they could sell the stock to someone else at a higher price than they bought it for. Burton Malkiel, author of the classic book A Random Walk Down Wall Street referred to this as the “castles in the air” phenomenon, thinking one could get rich quick based on hopes and dreams.
Dog investing isn’t a new phenomenon. We’ve seen frenzied trading in non-profitable firms in the late 1990s during the dot-com tech stock bubble, with the excitement of the blue-chip large cap Nifty Fifty that often traded at price-earnings multiples of 50 times or more during the 1960s and 1970s, and at least as far back as the Roaring Twenties when stock euphoria preceded the Great Crash of October 1929 — with trading based on hopes and inflated expectations rather than fundamentals. In each case what dog investors heard was to quickly grab a stock that you are certain is going to increase in price, regardless of what its true value might be.
There’s an alternative approach to investing, followed by cat investors, much less euphoric, but also much better for you in the long-run. It’s not about grabbing that hot stock. It’s based on the tenets of modern portfolio theory, developed seven decades ago by Nobel Prize in Economics recipient Harry Markowitz. In short, the theory tells us not to put all of our eggs in one basket, don’t just grab a hot stock, but rather form a well-diversified portfolio of stocks across sectors, as a patient investment strategy rather than for the purpose of short-term trading. That’s what will give cat investors the best reward-to-risk. Jeremy Siegel, the Wizard of Wharton, presented evidence of the benefits of a buy-and-hold strategy in his best-selling book Stocks for the Long Run. Of course, a diversified portfolio involves other assets as well, such as bonds, which are less risky than stocks, and so your overall portfolio depends on how much risk you are willing tolerate.
The path to low-cost diversified investing was paved by the founder of The Vanguard Group, the late Jack Bogle. In 1975, he created the first index mutual fund, one that replicated the broad S&P 500 index, saving investors billions of dollars in fees compared with actively-managed funds. Buying and holding an index fund may sound as exciting as watching an eight-hour video of birds and squirrels, but it’s satisfying for cat investors, and the payoff is there for patient investors in terms of wealth creation. Bogle once gave the advice to index investors to throw away their annual 401(k) retirement savings statements, and wait decades until you retire to see what your investments are worth. He told a Bloomberg reporter, “Don’t peek. Open the envelope when you retire and have a cardiologist standing by, because you’re going to be totally amazed.”
It all starts with you, and the type of investor you want to be. You may be a cat-lover, or you may be a dog-lover, but we can learn a lot about investing success from the inactive and unrushed approach of cats like Jasper.
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Stephen Foerster is a co-author, with Andrew Lo, of In Pursuit of the Perfect Portfolio: The Stories, Voices, and Key Insights of the Pioneers Who Shaped the Way We Invest, Princeton University Press (August 17, 2021). Investment pioneers such as Harry Markowitz, Jack Bogle, and Jeremy Siegel are featured in the book.