Dalbar recently released their 2009 edition of their Quantitative Analysis of Investor Behavior (QAIB). (You can access an extract here.)
As usual, the news is not pretty. Investors managed equity returns of 1.87% over the last 20 years, while the S&P 500 returned 8.35%. In other words, investors lagged the market by almost 6.5% annually. In fact, investor returns in equities were lower than inflation.
Dalbar’s conclusion–under the heading Bad Decisions Lead to Poor Results (!)– is that when the going gets tough, investors panic. This is the fifteenth year that they have put out their QAIB, so they’ve got a pretty good idea they’re right on this point. I would have to agree with them, since everyone in the industry sees the same pattern in their account flows.
But perhaps there is more to it. It’s easy to imagine investors getting panicked out of the stock market. It’s quite volatile at times and can have some hair-raising declines. Fixed income, on the other hand, is generally thought of as a very staid investment, something appropriate for the old and stuffy, like the classic t-shirt with the Monopoly guy that reads “Gentlemen Prefer Bonds.” Fixed income is presumed to be something that you buy and hold for the income stream, not something that is actively traded. Yet, surprisingly, fixed income investors do no better on a relative basis. Their return over the last 20 years was just 0.77%, again about 6.5% annually worse than the Barclays Aggregate Bond Index, which came in at 7.43%.
One unfortunate commonality between stock fund and bond fund investors was their average holding period: way, way too short. Equity investors held for an average of 3.11 years, while fixed income investors held for 2.69 years. The average business cycle is longer than that! Think about it–the only “expertise” an equity investor had to have to earn 8.35% over the past 20 years was patience. The investor didn’t have to do anything clever or perform any market analysis. The returns were there if you were simply willing to be a slug and not do anything! If you are wiggling in your seat every time you invest, perhaps you have RDD–Return Deficit Disorder.
Active investment management attempts to improve upon market returns, and there are several proven methods for achieving those excess returns. But none of them are going to be very successful until the investor can sit still through at least a couple of market cycles. Do your due diligence thoroughly, choose carefully, and then sit tight and let the process work.