The Misadventures of Current One Year Returns

In general, people are far too easily swayed by short-term performance. They see an investment that has really great returns over the last year, they feel left out, and they don’t want to miss out anymore. The next thing that usually takes place is the purchase of that investment for themselves. Here’s the catch, the performance that they are jealous of is not likely repeatable in their ownership time period. In addition to that, it's really tough to have the investing discipline to get good returns even if you’re late to the game. 

The great example of this problem is Fidelity’s Magellan Fund from 1977-1990. The fund had an average annual return of just over 29%. That’s 29% a year! That’s really unusual and unlikely. It’s a huge track record of success! The sad thing is that individual returns for investors were nothing like that. The average investor in the fund lost money. Why?! How?! It wasn’t because there was something special that you had to do to earn those returns as a regular person. The difficult thing for people was to buy it and just leave it alone. No one likes to see volatility. No one likes to lose money. Too often people expect to buy something and then just enjoy the positive growth. The typical investor in the fund bought at the high, it started to move down (which all investments do), they panicked, and sold while they were down. That’s how you lose money, when you could have been almost doubling your money every 3 years!

I am mentioning all of this because we are at a pretty unique time in history. When COVID first became a huge concern in the US, the market went down, way down. It looked really bad, but it was a V-shaped recovery. It was back to even pretty quickly, and then continued to climb. This led to the phenomenon that we are seeing right now. Today, there are over 200 ETFs with 1 yr returns in the triple digits. That is doubling your money in a year! That is not typical, or sustainable. In fact, it won’t be very long down the road where we will see those one yr numbers drop back down closer to typical averages. 

I am not saying that it’s a bad time for investing. I fall into the camp that believes the best time to invest is when you have the money available. What I am saying is that it is a time for caution and research. Never purchase an investment based solely on returns. Do not chase returns! We have all heard the old adage, buy low and sell high, or buy and hold. The reality is that most people buy high and sell low, because it’s really hard emotionally to sell high, or to hang on when things are dropping. We’re not wired to sell out if there’s a chance we are bailing too early! We’re not wired to hang on if we’re losing money. We have to train ourselves to do just that. I can help you with that. 

You have to buy an investment because it makes sense in your financial plan to own it. Then you hang onto it until it doesn’t match your investment thesis anymore. The worry that I have is that people see the current 1 yr return numbers and behave just like the investors in the Magellan Fund. They chase the returns that have already happened, and then abandon the project when it doesn’t work out right away. Let’s not be that person!

Even at all-time highs there are opportunities, but not every investment that has done well is an opportunity. Don’t buy something because you have heard a lot about it, and it’s done really well. You have to evaluate if it is still a good idea to buy today, not a year ago. Returns are an important tool in evaluating investments, but lengthen your time horizon. A 1 yr return only has value in so far as you can see if you’re coming out of a boom/bust period, or tracking the average. It provides info, but not any that we can use by itself to make a decision. 

There are a lot of criteria to consider when you are determining whether or not an investment is the right fit to hold in your portfolio. There is a lot to evaluate. Even after evaluating if an investment is something that I want to purchase, I very rarely buy it right away. I add all investments that I want to buy to my watch list, and track it for a while. It’s the same way I shop for shoes. I walk away for a while, and continue browsing. If the shoes are still on my mind toward the end of my shopping trip, I buy them. It’s always a good idea to give yourself a cooling off period. Sometimes our excitement causes us to do things that we haven’t really thought through. (I have a lot of shoes that I never wear that I bought before I put my policy into place.) If you’re wondering how to evaluate investments, it’s something that I cover in my investment analysis mini course. You can schedule yourself for the course on my website.