Home Radio Segments Guest Segments 5 Tactics to Help Patient Investors Prosper

5 Tactics to Help Patient Investors Prosper

James Glassman, Patient Investors Prosper

With James Glassman, Contributing Columnist – Kiplinger’s Personal Finance, Author – Safety Net: The Strategy for De-Risking Your Investments in a Time of Turbulence

Jim Glassman, a columnist at Kiplinger and a visiting Fellow at the American Enterprise Institute, joined Steve today for an interesting discussion on investment behavior. Jim believes that human behavior is the strongest indicator of investment success. In his new book, Safety Net: The Strategy for De-Risking Your Investments in a Time of Turbulence, Jim outlines what constitutes healthy investing decisions.

Behavior Not Knowledge

Jim’s beliefs really center around a key concept, namely that for small investors behavior is more important than market knowledge. Having the right strategy and being able to stick to it will serve you much better in the long run than trying to understand, and react to, every nuance of the market.

But sticking to a good investing strategy requires discipline and, according to Jim, is the single most important tool to having success in the stock market. The ups and downs and slides and dives inherent in the market elicit the same waves of emotion inside the investor, which can lead to panic, depression, and bad decisions.

Playing The Long Game

Steve cites an example of this strategy used by Warren Buffet in his purchase of IBM. Buffet stated during this process that he hoped the stock wouldn’t go up for a long period of time. This is, of course, contrary to the wishes that most investors would have, and demonstrates the importance of psychology and perception in investing decisions.

With this in mind, and to overcome fear and greed that often accompany the lows and highs, respectively, of the market, Jim’s book tells you how to build an investing safety net that provides you with gains, while offering protection against the downside.

Dollar Averaging

Jim particularly advocates the approach of ‘dollar averaging’, whereby you invest less money in stocks when they’re prices are high, and more money when they dip in value. This is an excellent way to actually take advantage of the ups and downs of the stock market, and is considered by Jim to be the best way to invest.

When turbulence strikes, Jim’s tips will help you avoid the financial nightmares of recent years when portfolios and 401Ks were devastated. When followed, the five principles and 18 rules outlined in Jim’s book can help keep the “animal spirits” rooted in human behavior in check when fads and news flashes lure you into making bad investing decisions.

This is critical investment advice that you’re not going to want to miss out on.

Disclosure: The opinions expressed are those of the interviewee and not necessarily United Capital.  Interviewee is not a representative of United Capital. Investing involves risk and investors should carefully consider their own investment objectives and never rely on any single chart, graph or marketing piece to make decisions.  Content provided is intended for informational purposes only, is not a recommendation to buy or sell any securities, and should not be considered tax, legal, investment advice. Please contact your tax, legal, financial professional with questions about your specific needs and circumstances.  The information contained herein was obtained from sources believed to be reliable, however their accuracy and completeness cannot be guaranteed. All data are driven from publicly available information and has not been independently verified by United Capital.

< class="collapseomatic tsps-button" id="id669bd8e98f375" tabindex="0" title="Read The Entire Transcript Here" >Read The Entire Transcript Here< id='swap-id669bd8e98f375' class='colomat-swap' style='display:none;'>Collapse Transcript

Steve Pomeranz: My guest is Jim Glassman.  He is a visiting Fellow at the American Enterprise Institute and his most recent book is Safety Net, the Strategy for De-Risking Your Investments in a Time of Turbulence. Jim Glassman has a popular column at Kiplinger’s Personal Finance Magazine, and he is currently joining us today to talk about five tactics that help patient investors prosper.  Welcome to the show, Jim.

Jim Glassman: Thanks, Steve.

Steve Pomeranz: It’s more behavior, isn’t it, than it is the quant side of things, even though knowing the numbers is very important, but being a successful investor is a lot about behavior.  Tell us about that.

Jim Glassman: Absolutely.  For small investors, behavior is absolutely the key.  I think a lot of people don’t quite realize that.  The best way to succeed in the stock market is not necessarily being brilliant about picking the stock or that stock, it’s having the right strategy and being able to stick to it, which is very, very difficult for most people to do because the market is a very emotional place.  People tend to make mistakes.  They get too excited when the market’s going up, and they get too depressed and panicky when it’s going down.  The real key to success is behavior and discipline.

Steve Pomeranz: There are some behavioral aspects to life and to investing in particular, and one of them, which I don’t think gets mentioned a lot, is anchoring.  I always use the example when you’re going to look for a house and you say to the realtor, “I only want to buy a house.  I don’t want to spend any more than $500,000.” The first house they take you to is a $750,000 house, and you go, “Oh, this is great.” Then when you go look at a $500,000 house you go, “I can’t live here.” They’ve anchored you on this $750,000.
I think what happens with investors is their portfolio goes up in value and then they get anchored at this number that they saw last night when they pulled it up on their computer, and then the market goes down, and now they see “I’ve lost $5,000, I’ve lost $7,000,” and now they’re starting to get nervous, and they think, “Oh, I’ve got to stop the losses.” What do you think about that idea and what should someone do?

Jim Glassman: There’s no doubt that that is a good example of the kind of behavior that is difficult to overcome, but certainly people have it.  I guess another variation on that is, “I bought the stock for $100 a share.  The company just got a new CEO.  He’s driving it into a ditch.  The stock is now at $60, but I’m going to hang on until I get my money back, until it gets to $100.”
I want to be clear.  I am generally a buy-and-hold investor, but I do believe there are times when you need to sell.  That’s the kind of anchoring that people also indulge in that’s dangerous.  There are lots of behaviors that we have that are kind of driven by psychology, and it’s not easy to overcome them—but it’s necessary.

Steve Pomeranz: So many people, according to surveys anyway, are still very much not invested back into the stock market.  They’re still feeling the reverberations from the 2008 decline, which is totally understandable.  That was a gut-wrenching decline.  I think you wrote the number here that on March 9th of 2009, which was the low, the Dow got to 6547.  Wow!  That’s got to hurt.  That feels absolutely terrible.

Prices have rebounded of course, but the idea that they’re still afraid to come into the market because of that experience, what do you think about that with regards to behavior?

Jim Glassman: Well, it’s probably the best example of how fear drives investment decisions.  When a lot of people bailed out as a result of that, or, if they stayed in, if they have a 401k, and they really have a hard time taking their money out, they don’t want to put much more money in because they now associate the stock market with terror, basically.

There are tricks to helping an investor become disciplined, and one of them really has to do with pay as little attention as you possibly can to the daily ups and downs of the market.  It was pretty hard in 2008 to do that, but, in general, if you’re a long-term investor, what the market does in the short term is completely meaningless to you.

Steve Pomeranz: In terms of when a person should look at their portfolio, what do you think a reasonable interval should be?

Jim Glassman: Once a quarter is what I should say.  That’s about it.  Maybe, at the most, once a month.

I talk in the piece about how 20 years ago, I told the editor of the Washington Post business section—which I used to write for—”Get rid of the stock pages.” The pages and pages of stock prices.  She just laughed at me at the time, but, of course, they did get rid of the pages, although that was more for to save money than for anything else, and the fact that we can now look at stock prices on a second to second basis, which makes things actually even worse.  The point is there’s no need to look at stock prices right away on a current basis.  The only reason to do it is that prices do give you an indication of what might be wrong with a company, and that’s the only reason to sell.  You don’t sell because the price went down.  That’s frequently a good reason to buy, and you don’t sell because prices went up.  You sell because something happened within the company that makes it not as good a business as when you bought it.

Steve Pomeranz: If you’re going to buy an individual company, then watch the company, not so much the stock price.  The stock price is a barometer of what may or may not be happening in the company, so start to look at the company.

Jim Glassman: Steve, I think that is actually the most important point, that to think about your holdings, not in dollar terms, but as investments in great businesses.

For example, if you had a friend who said, “You know, I’ve got the greatest dry cleaning business in the world.  I’d love to have you come in as an investor.” You’re convinced, and you go in as an investor, you don’t look at the value of that company on a day-to-day basis.  It’s hard to value it day-to-day, but that’s not what you’re thinking.  You’re thinking, “Hey, I’m a 20% owner in this dry cleaning business and down the road, maybe in 10 years or so, maybe we’ll sell it.  Maybe I’ll cash out,” but I think of what I’ve done as investing and owning a piece of something, and that’s the way you should think about it when you buy General Electric stock.  It’s not $19, it is a small piece of a great company.  Once you start getting your mind in that kind of frame, then it becomes easier to do some of the other things that I talk about.

Steve Pomeranz: My guest is Jim Glassman.  He’s a visiting Fellow at the American Enterprise Institute, and he writes a popular column for Kiplinger.  You can see why.

Here’s another way to think about it.  I think, anyway,Jim.  It’s not only that you bought this dry cleaner, and that maybe in 10 years it’s going to be worth more, but what is it that you’re actually getting as an owner of the dry cleaner?  You’re getting the right to a certain percentage of the cash flow.  The profits are coming back to you, whether they actually pay them out to you in the form of a dividend, or they’re accruing to you in the value inside the company.  You are due the present value of all future cash flows.  That’s what gives something value.

Here’s a thing I want to pose to you.  You know how much everyone talks about indexes and, boy, I’ll tell you, they’re great and they have their place, but I think here’s one problem with an index psychologically.  If you’ve got indexes in your portfolio, and you’re watching those indexes go down, you don’t really know.  It’s just a number that’s moving down, and now you’re worth less, whereas, in your example, if you own General Electric, if you own these great companies—Procter & Gamble, Johnson & Johnson—it’s more tangible.  You can say, “Those companies are not going out of business.  Those are well-managed companies.” You take a good look at them, and it’s something to hold onto rather than just some number floating around.

Jim Glassman: I think that is an excellent point.  I really do.

An example of that is I was an early enthusiast for Netflix and wrote a column about it right after they went public.  My feeling about Netflix was this was a company to hold onto for the long term, and if you know the history of that company, the price fluctuations have been wild.

Steve Pomeranz: Breathtaking.

Jim Glassman: I wanted to own Netflix.  That was the whole point.  I think, “Hey, this is a good idea.  I want to hold onto it.” But you’re right, if I own an index fund, I wouldn’t have that same kind of connection.  You wouldn’t really be able to feel like you were making an investment in something.  I completely agree with that.

Steve Pomeranz: Here’s another issue to discuss.  One tenet of what you’re talking about (and it’s represented by the word ‘patience’) is this activity of doing nothing.  I always say that doing nothing is an activity.  I got that from my teenagers.  The idea that you actually have to think about it, think about what the ramifications are of making a change and then decide actively not to change.  What if you’re the kind of person who’s got to be active?  What can they do to make sure that they don’t screw up the rest of their financial life?

Jim Glassman: What can they do make sure they don’t screw it up?

Steve Pomeranz: In other words, if you’ve got to be an active investor, and you know that’s going to work against you in the long term, what can a guy do, or a woman do, that’s got this itch to trade?

Jim Glassman: What I advise is something I call a fun and games account.  You say, “Okay, I just can’t help myself.” I’m not knocking this.  The stock market is fun, just in the same way that playing roulette is fun.  If you feel that way, then set up a separate account.  Take whatever number it is, and it should be a small number, let’s say 5% of your holdings, of your investable assets, and you say, “Okay, I’m going to set up this account.” Say you’ve got $500,000 in investible financial assets, so you set up a $25,000 account and just trade to your heart’s content.

I think it’s an interesting experiment over time.  Let’s say 5 years, see how you did compared to your buy-and-hold account, and I think you’ll find you did worse, but, at any rate, you’ll entertain yourself and without a great deal of harm.  I think that’s the answer to that question.  Some people just can’t help it and go ahead.  There’s nothing wrong with it.

Steve Pomeranz: That’s the cost of entertainment, like any gambling.  You know you’re going to be giving that money back eventually.  The odds are against you, but entertainment costs money and as long as you’ve got that figured out right in your mind, it shouldn’t hurt you too much.

There’s a saying that we use, and that’s “Buy high, sell low, repeat until broke.” I think that’s what most people do because as the markets rise, let’s say they’re in disbelief.  It rises some more.  It’s going to crash any moment.  Then it finally gets to the point where they go, “You know what?  It just keeps rising.  It feels really safe now.” Then they come in, prices are really high, professionals go, “Holy cow, prices are way expensive,” but now these people are in.  Sure enough, then it starts to go down and down and down, and then when it gets to the bottom, they can’t stand the pain.  The cycle continues over and over again.  How do you reverse that psychologically to buy low and sell high?

Jim Glassman: The best way to do it is through making regular purchases every month or every quarter.  That’s called dollar cost averaging.  Let’s say that every month you put $1000 into the stock market, and, by the way, people do that with their 401k plan.  Let’s say you put all the money into one stock, so if the price of the stock is $50, then you’ve bought 20 shares.  If the price of the stock declines terribly, let’s say it goes down to $10, then you can buy 100 shares.  The point is that you are buying more shares when the stock goes down, and you’re buying fewer shares when the stock is at a higher price.  That’s a very good way to actually take advantage of the ups and downs of the stock market.  Consistently putting the same amount of money into the market on a regular interval.  I think that’s by far the best way to invest.

Steve Pomeranz: I don’t think either you or I are recommending that people start to buy individual stocks.  People who aren’t really trained investors.  We’re not saying go out and buy a stock.  You probably are better off buying an index fund or a mutual fund that’s got a great track record.  Being diversified enough because you don’t want to make the mistake of dollar cost averaging something that ends up going out of business.  Be careful there and make sure you’re diversified.

Here’s this idea, Jim, with Warren Buffett, who I quote all the time on this show, and his purchase of IBM.  Warren’s got his reasons for buying IBM, and they’re somewhat controversial, but he says that he hopes that the stock doesn’t really go up for a long period of time.  Nobody thinks like that.  I want to buy that stock at $180 and I want it to go to $300 tomorrow.

Jim Glassman: Right.  No, I love that, and it’s hard to wrap your mind around that concept, but what he’s saying is that at some point, way, way, way down the road, he’s going to sell it.  Think of the average person who is maybe 40 years old now.  They’re going to retire when they’re 70, so at some point, the reason you invest is to cash it in or maybe to go to your kids or a charity, but, in the end, you want to turn an investment into current income.  It would seem to be pretty clear, if you thought about it, that the lower the price during the period when you’re buying it, the better.  Then you hope that rises in price toward the end.  Today’s price should be as low as possible.  Whenever you buy something, you want it to be low.

The funny thing is that people think that way.  It’s quite easy to think that way when you’re buying, let’s say, a new suit.  You don’t say to yourself, “Wow, I’m going to rush in and buy that suit because I heard they marked it up $400 to $500.” No, you want to buy that suit as low a price as possible, but somehow we can’t think that way when it comes to the stock market.

Steve Pomeranz: You got to buy a can of tuna and you go, “Oh, I’m not going to buy it because it’s half price today.  I’m going to only buy it when it doubles in price.” Nobody does that, but when it comes to stocks, for some reason, they psychology changes.  That’s why when it comes to investing, you’ve got to be a bit pathological or extremely well-trained in order to get that right because it goes against, I think, human nature.

Jim Glassman: Exactly.  When you say well-trained, I think if you can set it up in a way where you then pay no attention to it, it works very well.  If you tell your broker or your banker or whoever you’re dealing with, or you can do it yourself online, “Every month, I’m going to put $1000 into …”

I agree with you, of course, about diversification.  Let’s say these 10 stocks and these three mutual funds, and then forget about it.  Look at it every quarter.  “Oh, how am I doing?  Okay.” Then that’s it.  There’s nothing to it.

Steve Pomeranz: When you’re young, you really wish the stock market would just be terrible.

Jim Glassman: Yes, that’s correct.

Steve Pomeranz: Right?  You can accumulate all these great companies at very attractive prices.  As you get older, you really kind of want the markets to be higher because you’re taking your chips off the table a little bit for income purposes and to live in your retired life.  There’s this kind of battle between age groups here, but young people want to make money right now, so they’re not going to do what’s necessarily necessary in order to wish that they were buying only at low prices to accumulate over the long term.

Jim Glassman: Right.  That’s exactly right.  The good thing about stocks is that historically they go up, and so if you’re buying now, in 30 years if stock prices rise at 8% a year, then they’re going to double in roughly 9 years.  In 30 years, you’ve got an asset that’s gone up by about a factor of 8.  That’s pretty nice.  There are no guarantees but, in general, if you’re 40 years old today and you’re going to retire at 70, you have history on your side if what you want is buy low and then eventually sell or use high.

Steve Pomeranz: John Templeton, the father of mutual funds, I once heard him say that at the end of this century, the Dow will be at a million.  I did the math, and it was really about a 6 or 7% compounded rate of return.  You aren’t asking a lot, but this idea of going from 16,000 to a million just sounds so impossible.  Back in 1980, the Dow was at 800, so it’s really not that impossible.

Unfortunately, Jim, we are out of time.  My guest, Jim Glassman, popular column he has in Kiplinger Finance and he’s also a visiting Fellow at the American Enterprise Institute.  Hey, Jim, it was a lot of fun to have you.  Thanks for joining us.

Jim Glassman: My pleasure.  It was great.