As I was sitting in traffic on my way to the office this morning, I thought of the opening scene of the movie Office Space. If you haven’t seen it, take one minute and watch the video, it’s so relatable!
As I was watching the drivers around me weave from lane to lane, there appeared to be a very clear connection to “chasing performance” from an investment perspective. Chasing performance is the process of making investment decisions based on what has performed well recently.
In other words, every time we see better returns away from us (traffic moving faster) our inclination is to move to that new investment, just in time for the cycle to change. That puts us back in the slow lane. As we sit in the slow lane, we again see better returns away from us (traffic moving faster again) thinking this time it will be different. Then the cycle changes again. And round and round we go.
It feels prudent to make the switch at the time, but that doesn’t mean that it is prudent.
From the inside, once the curtains have been pulled back, you can see that almost the entirety of the fund management industry is based around the idea of chasing performance. Think about it - Morningstar has made an entire business out of past performance. The star system that they advocate for is a measure of a fund’s past performance versus the other funds in their respective category. Of course, they include the disclaimer that past performance does not guarantee future results. How many people do you think heed that small-print advice?
Even financial advisors perpetuate this misaligned focus on the rearview mirror. When meeting with a new advisor to get a “second opinion” on your portfolio, in many cases, I’ll bet you’re offered a backward-looking 10-year Morningstar report showing you how you “would have done” if you had invested in their portfolio for the prior 10 years — as if that is somehow indicative of what you’ll get in the next 10 years.
What do you think the likelihood is that they have held those same exact investments for the prior 10 years? Probably not great. This is why I put so much focus on NOT chasing performance (and why I never offer comparative portfolio analysis when working with a new prospect).
It’s why I am clear that there will be times when diversification will look foolish and that it will be difficult to keep hanging on in faith that the cycle will come back around. It’s why I am adamant that we focus on the evidence rather than narrative. And by not employing active managers, we can avoid adding another potential cycle (that of the fund manager’s) to the mix. We simply own what has historically worked. Then we sit.
Taking a look at a basic Callan Chart, we can see how different asset classes perform annually.
Looking at that chart, good luck trying to predict which sector will do well next. While performance chasing can look irresistible at times, it seems clear to me that owning all asset classes is a more prudent approach if you are seeking more consistent long-term returns. And in retirement, softening the edges of the market can be the difference in making it and not making it financially speaking.
Thanks for reading!
Disclaimers: Any opinions are those of Ashby Daniels and not necessarily those of Raymond James. The foregoing information has been obtained from sources considered to be reliable, but we do not guarantee that it is accurate or complete. Expressions of opinion are as of this date and are subject to change without notice. Investing involves risk and you may incur a profit or loss regardless of strategy selected, including diversification and asset allocation
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