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US Credit Downgrade, Volatile Markets, Recency Bias
Nothing like some financial turmoil to get me writing this blog on a regular basis! Let me first comment on the credit downgrade by S&P over the weekend. S&P is one of three major credit rating agencies. Both Moody’s and Fitch reiterated their triple A rating of US debt. S&P is also the same company that rated many mortgage-backed securities AAA a few years ago and many of those securities did not do too well. I think it is fair to say that S&P has a bit of a credibility problem on its hand, so I am taking this downgrade with a grain of salt. More importantly, investors have ‘voted’ today by their large-scale purchases of US treasuries driving the yield of the 10-year bond down by nearly 20 basis points. This is a very large drop in interest rates for one day. So, all the predictions over the weekend of higher interest rates were way off the mark.
Ok, let me comment on the volatile markets we are seeing. Market corrections are normal. Yes, they do not feel good, but they are normal and it is a reality of human psychology. It certainly appears as if we have a negative feedback loop occurring as some folks watch the market go down and become ever more fearful that if they do not get out now their portfolios will fall even further in value. Here is the problem with that: what you are saying is that you can time the market better than others. Rather than succumb to the psychology of the herd, I recommend that you stick with your investment plan and view the current situation as an opportunity to rebalance your portfolio. Just a few weeks ago the market was about 20% higher. We know from past history the market will eventually recover what it has lost, so why not buy more shares now?
One of the reasons folks are quite fearful is a behavioral bias known as recency bias. They look at what has happened recently and incorrectly assume that the same pattern will continue. For example, the market has been down nearly every day now for two weeks so it is easy to assume that it will continue that way for the next two weeks. While I, nor anyone else, knows where the market bottom will be, the current psychology will change. It was not that long ago that the market went up 7 days out of 8 near the end of June/early July time frame. That too changed was we are now seeing.
I wish I could predict how long and how severe these market down turns will be. What I do know is that Warren Buffet said it best when he declared, “When everyone is greedy, be fearful. When everyone is fearful, be greedy.” Those who are serious long-term investors will look back on all this as an opportunity to rebalance their portfolios and buy stocks at a discount!
If you have a question or comment please feel free to use the comments section below.