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One Well Known Investment Virtue, another Forgotten

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Every investor knows that any successful strategy must have “discipline” — whatever that is. And every investor is a disciplined one, until they aren’t.

According the Morningstar, the average equity mutual fund investor has earned an average of 2% per year over the last 20 years. Meanwhile, the average equity mutual fund has earned an average of 12% per year over the same 20 years. What explains the difference? Investor behavior. As it turns out, we are not as disciplined as we think we are. In reality, when markets go down, many investors panic and sell. When markets go up, many investors double down on the market. I call this the “sell low, buy high” strategy. We all know it’s supposed to be the other way around, “buy low, sell high.”

But stop and think about how this really works. This means that you must buy when markets are down, everyone is running away from the burning building, and CNBC runs late into the night with apocalyptic coverage of the next Great Depression. Of course, the opposite is also true, you have to sell when all your friends are telling you how much money they are making in the market, and Money magazine runs a story on early retirement and how to insure your yacht.

Warren Buffet has it right: “Be fearful when others are greedy, and greedy when others are fearful.”

Perhaps we should take a harder look at what it means to be “disciplined,” and at the same time re-discover another important investment virtue, “patience.”

In his book, “Simple Wealth, Inevitable Wealth,” behavioral finance expert, Nick Murray, defines “patience” and “discipline” as follows:

“Patience. We live not in an age of enduring investment truths but of late-breaking market news, and this places the investor under constant pressure to do — something — to react to the event of the moment rather than acting on the goals of his lifetime and beyond . . . .

Patience, to me, is forbearance: tolerance and restraint in the face of provocation. It is the refusal of the investor to react inappropriately to disappointing events . . . .

Patience thus dictates a decision not to do something wrong in your long-term, goal-focused portfolio.

Discipline, on the other hand, is the decision to keep doing the right things.”

I believe that discipline is about executing your investment plan, and patience is about not abandoning it at the first sign of trouble. As we face the upcoming election, the on-going European debt crisis, and the so-called “fiscal cliff,” we will need to have an abundance of patience and discipline if we are to be successful, long-term investors.

Be proactive and prepare your investment portfolio in advance for volatility. Stop reacting. This will help you remain patient and disciplined in the heat of many moments to come.

As our British friends are fond of saying, “Keep Calm and Carry On.”

Austin Lewis

Written by Lewis Wealth Management

August 31, 2012 at 2:01 pm

Posted in Investments