Look beyond emotions when investing

March 9, 2009
Here is a sure-fire way to make a small fortune in the current investment environment — publish a book titled something similar to "Dow 1,000." The lower the number, the higher your sales.

Fear and doom dominate the headlines, and alarmists who confirm our present miseries are likely to sell well. And yet, while the royalties will line your pocket, unfortunately the followers of your advice are likely to do poorly — selling nearer to a market bottom than the top.

You don't have to look far for recent examples of capitalizing on investor moods. Flashback to 1999 and recall the hot-selling investment book, "Dow 36,000." Of course, the book's authors were exploiting the opposite emotion, greed, during that bull market. The book sold well, but those who followed the authors' recommendations bought at the top of that bull market.

In the introduction to "Dow 36,000," the authors wrote, "the single most important fact about stocks at the dawn of the 21st Century: They are cheap. ... If you are worried about missing the market's big move upward, you will discover that it is not too late. Stocks are now in the midst of a one-time-only rise to much higher ground-to the neighborhood of 36,000 on the Dow Jones industrial average."

Strangely, this advice is much more useful today than it was 10 years ago.

Now, if you were writing "Dow 1,000," what would you say? Let your imagination run wild and remember — the more pessimistic, the better your sales.

Certainly, you will want to research one of the most infamous examples of media pessimism, Business Week's "Death of Equities" cover in August 1979, published just before the dawn of a new bull market.

None of the above is meant to discount the severe problems of our present economy. Bear markets are gut-wrenching and this one is taking its toll on our country's psyche. But what doesn't work is to let the actions of the market influence your emotions and drive your behavior as an investor.

As Ben Graham said in his Mr. Market allegory: "The market is there to serve you, not guide you."

On cable TV, viewers are regularly counseled to place sell orders below the prices you paid for recent stock purchases. Now, think about that logic for a moment in different terms. Assuming you bought your house after conducting a rational appraisal of its value, would you immediately prepare the paperwork to sell it if someone were to come along next week and offer you 10 percent less?

Considering the depressed valuations for which some companies are available today, why care if prices drop another 20 percent? If you can buy a blue chip company selling for 25 cents on the dollar, why be concerned that it may drop to 20 cents? And if a bargain purchase were to fall further, an enterprising investor should be prepared to consider buying more.

On a final note, Warren Buffet's 2008 letter to Berkshire Hathaway shareholders contained the following wisdom: "Clinging to cash equivalents or long-term government bonds at present yields is almost certainly a terrible policy if continued for long. Holders of these instruments, of course, have felt increasingly comfortable — in fact, almost smug — in following this policy as financial turmoil has mounted.

"They regard their judgment confirmed when they hear commentators proclaim 'cash is king,' even though that wonderful cash is earning close to nothing and will surely find its purchasing power eroded over time."


Skarbeck is managing partner of Indianapolis-based Aldebaran Capital LLC, a money management firm. Views expressed are his own. He can be reached at 818-7827 or ken@aldebarancapital.com. 
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