Investing in financial markets can be somewhat of an emotional roller coaster, which makes it difficult for investors to stay focused and make rational choices. We sometimes trick ourselves into thinking that we’re infallible and can beat the market by tolerating higher levels of risk – or pull out too soon fearing a stock may plummet. It’s challenging for investors to assess which stage of the roller coaster they’ve reached, and this may block them from seeing their level of exposure to financial risk. Figure 1 – Source: Russell Investments – Sept 2017
The cycle of investment emotions (shown in Figure 1) can pose a substantial threat to an investor’s financial well-being by causing them to ignore warning signs or statistical evidence. This is why committing to a diversified long-term investment plan is so important. The role of a financial advisor is critical here, as it’s their job to steer investors away from reactive decision-making and towards rational investing. An experienced advisor understands the need for objective analysis in the face of market volatility, and can help create a portfolio designed to weather any condition over time.
“Be fearful when others are greedy and be greedy when others are fearful” ~ Warren Buffett
When it comes to the stock market, investor emotions typically pendulate between two extremes: fear and greed. When things are great, we can have an irresistible urge to possess more (greed). When things go badly, we can resort to emotionally-charged, drastic decisions (fear). Experiencing FOMO (Fear of Missing Out) or FOIL (Fear of Investment Loss) can drive investors to get caught up in the speculative media hype that results in baseless investment opinions, only to yield an unpleasant outcome. Witness the Bitcoin bubble.
The cryptocurrency market spearheaded by Bitcoin in the last quarter of 2017 was riding a wave of euphoria. The price of Bitcoin went from $6,000 to $20,000 in the span of only a few weeks (see figure 2) and was based on speculation that large institutions would be interested in buying crypto. Overly optimistic Bitcoin stories circulated and repeatedly claimed that it was going to replace the standard fiat money as the main global currency. This is the time when investors believe that nothing can go wrong, but in reality they’re at a point of maximum financial risk. As the adage goes: when something is too good to be true, it usually is. And it was. In early 2018, Bitcoin took a nosedive and lost nearly 80% of its value. It’s continued to decline steadily since.
Figure 2 – Source: Bloomberg – Dec 2018
Just as previous bubbles have served as a learning tool, so has Bitcoin. This classic financial bubble gave investing millennials a crash course on the importance of basing their investment strategy on a long-term outlook. Or did it?
Despite clear evidence, millennials seem to have a crypto crush and their romance is based on trust. A recent survey conducted by eToro claims that nearly half of millennials trust the US stock market less than crypto assets. The fall of Lehman Brothers, followed by the worst recession since the Great Depression, eroded the last bit of trust and resulted in a breakup with monolithic institutions such as traditional exchanges and large investment banks. According to the Millennial Disruption Index (MDI), banking is at the highest risk of disruption due to the fact that 70% of millennials would consider financial services from Google, Amazon, Apple and Paypal rather than their own nationwide bank. Having grown up in the technology era, it’s easier for millennials to associate with FinTech companies than banking moguls such as J.P. Morgan and Wells Fargo, which are still operating on older platforms that have become far less appealing. On the verge of life-changing life events such as marriage, the birth of a child and the purchase of a new home, this tech-savvy, forward-thinking generation needs more than what banks are currently offering.
Millennials are increasingly seen as the generation that wants to invest according to its beliefs and, oftentimes, the money takes a backseat to social or environmental causes. In this way, they’re seeking to use emotions constructively to drive change in the markets, rather than react to it as in the case with roller coaster investing. This means they won’t play out the emotional investing model to its conclusion.
The extent to which they’ll succeed in disrupting the markets remains to be seen, but one thing is clear. Their suspicion of institutions, the stock market, regulators and corporations is bound to have an impact one way or another.
Sameer Amin Research Analyst, T.E. Wealth
This article was published in T.E. Wealth’s Strategies newsletter, June 2019 edition. Read the full edition here.
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