Value investing luminary Jeremy Grantham has a few words for today's shocked and scared investors: Follow your fear. Or, as he puts it, invest when you're terrified. Grantham, who saw the long-term correction the markets would take over the past decade — his shop predicted the Standard & Poor's 500's returns with almost scary accuracy — says now is the time to get back into the water, just as it was time to leave the pool during the tech boom.
"It was psychologically painful in 1999 to give up making money on the way up and expose yourself to the career risk that comes with looking like an old fuddy-duddy," he says. He adds that it's seen as equally perverse to jump back in with both feet, as he advocates now. What may be hardest for investors, he says, is to part with dearly held cash, especially since credit markets are so dry. But part with it investors must, because those with too much cash will miss a huge part of any coming market rally.
To get back in, Grantham recommends a few courses of action. Investors have to create a battle plan and stick to it. Once that is in place, he recommends a move that might seem counterintuitive to some: Instead of gingerly dollar-cost-averaging your way back into markets, Grantham recommends a few large jumps.
"A single, giant step at the low would be nice, but without holding a signed contract from the devil, several big moves would be safer," he says. The plan is important, because without it, investors face a mounting possibility of inaction. The large leaps are important because they are less dangerous than missing the whole rally, even if such a move could never be risk-free.
"Life is simple: If you invest too much too soon, you will regret it," he says. "On the other hand, if you invest too little after talking about handsome potential returns, and the market rallies, you deserve to be shot."
To avoid being shot, we asked our gathering of financial-industry pros their opinions on reinvesting when terrified. All agreed that Grantham had a fair point, but cautioned that it's awfully hard for retail-level investors to deal with that much fear.
Michael Ervolini of Cabot Research deals with fear on a daily basis as he takes a behavioral-finance lens to modern business and investing practices. He says Grantham might have been partly making his point for effect, and adds that, while it may be good advice, most of us don't have the stomach for such bold action. So we shouldn't try to be heroes with our own portfolios.
'A single, giant step at the low would be nice, but without holding a signed contract from the devil, several big moves would be safer.' —Jeremy Grantham, investor
"You should always [overcome your fear] in a way where you have a real deep confidence that, even though it's risky, it's the right thing to do," Ervolini says.
Stephen Roseman, the head of hedge fund Thesis Capital, echoes Ervolini's theme, noting that individual investors really have to take stock of how strong their positions are before diving in deeply. Investors like Grantham could weather severe trouble because of a deep conviction based on years of experience. Can you do that? It's a question that needs to be answered before you proceed.
John Jacquemin, head of Mooring Financial, notes that even though Grantham's advice makes sense, he sees the opposite happening for most investors: They sell when everyone else sells and buy when everyone else buys, ensuring losses. While he doesn't have any advice on how individuals can avoid this fate, Jacquemin says sometimes recognizing this pattern can help you see through times when your strategy isn't paying off.
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Forbes: Let's talk about reinvesting when you're terrified. Jeremy Grantham, a pretty smart fellow, recommends that people do it. He says that those with too much cash or now one with a very large chunk of the market recovery, and he specifically recommends people make a few large steps to get back into the market, not a lot of little ones. What do you make of this idea of reinvesting when you're terrified? It seems counterintuitive, but maybe that's why it's a good idea.
Michael Ervolini: Sometimes when a noteworthy person like Jeremy says something, the wording is to get your attention, not necessarily to be taken literally. The thought of doing anything when you're terrified is a terrifying thought. I think what the professional investors have long known, and more and more average investors are beginning to appreciate, is that process is critical to long-term success.
So whenever you're doing something that's counter to your process, little warning bells should go off. Now, you know, for a professional, its all sorts of things. But for an intelligent investor, your process might be high-only index; that's a reasonable process. It might be that I always double-check with my adviser, or it's [that] I only buy from among these 50 mutual funds. Or it could be directly down to stocks.
But when you're allocating, it should be reflecting something that you believe is pretty good, because you're going to be challenged. You could follow Jeremy's rule, and let's say you have a hundred grand to invest and you put in 50 today. And suppose you just put it in the index. Tomorrow, the index goes down five per cent.
Well, if you just followed Jeremy's advice because it matched up with you [feeling] panic and it was a good time to act, the next day, you could be so overwhelmed by remorse that you'll sell. So I like Jeremy's idea about taking advantage of difficult times and investing when the professionals think that the market's at a bottom, [and] I think that's probably wise advice.
But you should overcome your fear — [that's] the way I would interpret what Jeremy said. But you should always do so in a way where you have a real, deep confidence that even though it's risky, it's the right thing to do. It's not a guaranteed outcome, but it's a prudent behavior as opposed to simply holding your nose and jumping off the cliff.
Stephen Roseman: And, Mike, don't you think it's important for the for the retail investor to have a clear understanding in their minds of what investment success is? And I think most individual investors don't really have that consistent message in their head. As professionals, we know what our strategies are. We know what we're paid to do, you know, irrespective of strategy, right? But as retail investors, they seem to be a moving target.
Ervolini: I think it is hard to understand what your risk tolerance is for people. You're right on. And that's why this lurching is, to me, probably not a helpful thing. But in today's market, if you said, "OK, you know, I sold everything, perhaps and, you know, I didn't understand the market, and I feel a lot less confident today about investing than I did two years ago, but all the books and all the sages tell me that I should be getting back into the market.
So maybe I'll take 20 per cent or 30 per cent or whatever percent of my assets and redeploy them. But if I am, I have to acknowledge right now that the market can go up or down from here. And if it tends to go down a little bit, since I didn't put all of my money in, I'm going to ride it out. I'm going to make it at least a three- or five-year bet. I'm not going to try to time the market." But for retail investors I think it more often causes us to misfire than to make the decision.
Forbes: I think one of the things Grantham is saying is that when you're reinvesting when you're terrified, if you have foresight, you'll actually be sticking with your plan that you had all along that you're now scared to execute. He says "It's pretty fairly important to have a clear definition of what it will take for you to be fully invested. Without a similar program, be prepared for your committee's enthusiasm to invest, and for your own, for that matter, to follow the market."
Ervolini: I think overcoming your fear when you have a plan and a process, that that just makes all the sense in the world. Because logically, quantitatively, historically, you could know it's a good time to invest. But you just don't feel good about it. That's different than just plunging in because you think it's at the bottom of a market, and you don't have this expectation that it might take years for the market to recover. So I think, when you take in total what Jeremy is saying, it's good advice. But I think, you know, as initially presented, just investing because you're afraid is not necessarily smart.
Roseman: I was just going to say that, you know, it's also important too, specifically because it's coming from Jeremy, who I have tremendous respect for and who has been an incredibly successful investor, but he would tell you — and he's, in fact, talked about this in interviews before, and it's been well-reported — that in 1999, GMO as a firm was in a lot of trouble, right, because they stuck very much to that.
Now you really have to know as an individual investor how strong your hands are. Even as an institutional investor, they had the benefit of what ostensibly should have been very sticky capital, right. And as what happened to a lot of value investors in the late '90s, a lot of people started to question whether or not their managers, quote, "got it," right.
And, you know, as the world started to be valued on multiples of eyeballs and all sorts of other metrics that have nothing to do with the valuation of a business, people like Jeremy Grantham, Warren Buffett, there are plenty of very well-known investors that "didn't get it." Or at least that was the public's perception.
'I believe that the best time to buy is when everybody else is selling. And the best time to sell is when everybody else is buying, as a general rule.' —John Jacquemin, Mooring Financial
I mean, Julian Robertson shut down because of that. So you have to know how strong your hands are. These are people who are, again, professional investors. So as the retail investor, knowing your intestinal fortitude and just really having a good understanding of who you are and how you are defining investing success is critical. Because otherwise, it's very easy to take what you think are strong hands and turn them into very weak hands. And again, Jeremy had the benefit of having relatively strong hands and still suffered for holding onto his strongly held beliefs back in the late '90s.
John Jacquemin: You know, I think it sounds like good advice. But it's contrary to most people's nature to invest when you're terrified, all right. I believe that the best time to buy is when everybody else is selling. And the best time to sell is when everybody else is buying, as a general rule. And we've looked at studies that show that the individual investors in particular are, over the long term, not very good at timing markets, and tend to be very bullish when the market is very bullish, and follow and want to buy additional amounts, invest additional amounts, near peaks.
And as the markets decline, they want to sell and limit their risk. And so you look at the long-term record that comes from that kind of strategy, and it's not very good. So the problem with Jeremy's advice is, How do you carry it out? How does the average investor carry it out? The average investor, I believe, won't buy when he's terrified. Although it's probably good advice.
Forbes: I guess it's what we've been addressing, which is you have to know what your perception of investing success is, and what your perception of being invested is. You have to actually think it out rather than buying. You should make a plan first. And then it's easier to be prepared.
Roseman: You also have to know fear is all relative to time frame, too, right? And having a real understanding as to when one might need the capital and weighing the outcomes is to the return over that time. So take two ridiculous extremes: If somebody needs the capital for December, going all-in might not be the best idea.
'[The] reason that it's hard to pull the trigger is because of stress. And it's hard for any professional to feel a sense of self-efficacy, that they're in control.' —Michael Ervolini, Cabot Research
But, again, it comes back to being introspective about who you are as an investor. And I think, unfortunately, most people don't spend enough time. What they think about when they're going through the daily machinations of the market is either A) how much they're suffering, or B) how good they feel, right? So 18 months ago, it'd be how good they feel. And today, it's how much they're suffering.
Forbes: All right, but also, are we being a little unfair to retail investors? And if we just found out hedge funds had a record year for going out of business, too.
Ervolini: I think a better comparison might be retail investors with long only funds. Hedge funds have particular dynamics and objectives and risk tolerances that are really outside of what most of your intelligent investors are looking to do, but to pick up on some of the points, how do you help an individual?
Well, here's what we do when we're working with professional investors, and what many of them already have been doing. The first thing is you have to have self-awareness. What it is you're good at, what you're not? What is it you can handle, what you can't? What makes you really excited? What makes you anxious? That's every day, you have to work on self-awareness. Because the more you manage that, the more you can then make decisions that reflect what you say you want to do when you're not feeling emotional. And emotions are always going to challenge what you objectively want to do.
But in this market, the reason that it's hard to pull the trigger is because of stress. And it's hard for any professional to feel a sense of self-efficacy, that they're in control. It's hard to feel it in today's market, because even John and Stefan have not lived through this before. And they're, we can both tell, extremely capable and competent guys. But they haven't lived through this before.
So it's hard to be confident when the environment is something you haven't experienced before. That's why jet pilots simulate for thousands of hours before they fly planes. That's why firefighters practice going in and out of fiery buildings all the time. Because, when the real moment comes, you're confidence is based on the fact that you've been there before, even if it's only virtually.
So, for the average investor, what they're seeing right now is so outside of anything they were thinking would happen two years ago, that they're stunned. And I think that's, you know, the way one could think about using this knowledge, now, is to say, this may happen again. Maybe the you know, in 10 years, the market will dip 10 per cent or 15 per cent or 20 per cent, but it'll still be shocking. What do I want to do to manage those things?
And it's either I'm going to read 10 books and become very good, or I'm going to hire somebody to help me. Because it gets back to the basics. What is your time horizon? What are you goals? And, you know, what kinds of risk do you want to take to get there? And I think, for most of us, it really just helps to have that third-party review and discussion to help us come up with a plan in the first place, and then stay focused.