Every three months, I write an Investment Outlook for our do-it-yourself investors. It’s a good discipline to capture what I think about different asset classes and stock market regions on this regular basis, and it gives me an excuse to tap into the expertise of my investment colleagues. But the best thing about writing the Outlook is the opportunity it provides to ask our investors what’s on their minds.
We hold an online question and answer session with investors to coincide with the publication of the report and it is always a good litmus test of what’s front of mind in the markets - and, in particular, what investors are worried about. So, what did I learn this quarter?
The first clear takeaway is that some investors are more inclined to focus on the growth story than the harder work of deciding whether a share is attractively priced, its fundamentals. This is hardly surprising. It is human nature to look for simple patterns. Indeed, in earlier times, it was our skill at recognising the familiar, and being suspicious of the unusual, that was the difference between surviving and not. We are not naturally number crunchers and anyway it is difficult. That kind of abstract thinking came much later in our development, and we naturally revert to the faster, instinctive thought processes whenever our brains are under stress.
The most obvious example of the narrative-seeking mindset was the prevalence of questions about whether we are heading into recession and what it would mean for our investments. There were far fewer questions asking about the extent to which current valuations were correctly or incorrectly pricing in the probability of recession, which is the right question to be asking. It is possible to make money either way but only with a cool assessment of what is currently factored in.
The narrative-seeking mindset was also clear from the preponderance of questions about the technology sector in the latest batch of questions. Investors have found it easy in recent years to buy into the Silicon Valley growth story because it is so interwoven into our daily lives. It is not hard to understand a streaming service, online advertising or a smartphone manufacturer, nor to recognise their growing importance. From there it is a simple step to wanting a share of the action.
So, the collapse in technology share prices so far this year has come as a shock to many investors, but it has not so far undermined their enthusiasm for the underlying story. In fact, the opposite is probably true. Because some investors have anchored on a much higher share price and still believe the narrative, they naturally want to think that what looked attractive six months ago looks even more so today. This is why some technology funds continue to attract inflows despite their poor performance in recent months.
A related question that cropped up many times in the latest question and answer sessions was around the growth style that these tech stocks exemplify. Many investors wanted to know whether they should throw in the towel on growth and switch into the value style that looks for out of favour shares trading on undemanding valuation multiples.
The reluctance to do so is obvious from the questions. Again, this is no surprise. Value investing requires a mental detachment that most of us don’t have. It requires us to go against the herd and to invest in companies that few others are interested in. It also requires us to rely on that abstract number crunching rather than the simple narrative of the attractive growth story. You have to be a bit peculiar to enjoy doing that.
Another theme to emerge clearly from the questions our investors asked us was the imbalance between the enjoyment of making money and the pain of losing it. There have been plenty of studies showing that losing a given sum of money has a greater psychological impact on us than making the same amount does. Loss aversion is not just a preference not to lose money, it is more profound than that. We expect to make money in the stock market over time. We feel entitled to it. When the opposite happens, we feel affronted.
So, it’s no surprise that in the middle of a bull market hardly anyone asks how much longer this can go on for. We expect the market to rise and are unsurprised when it continues to do so. It is also no surprise that in this quarter so many asked whether the correction had run its course, how much further it would go or when it would turn back up again. The sense of unfairness was palpable too. Why has gold done so badly when everyone said it would be a hedge against inflation? Why has ESG been so disappointing when we were told how important these green themes were? Why are bonds and shares both falling at the same time - they are supposed to balance each other?
There are perfectly reasonable explanations for all of these. Gold pays no income so the opportunity cost of holding it rises in line with higher interest rates. ESG has underperformed because many green investors have over-indexed to technology stocks as a quick and easy proxy for environmental purity. Bonds and shares have fallen together because they are both impacted by tighter monetary policy. None of these reasons makes it any easier to handle the loss when things don’t work out as we expect them to.
So, what really jumped out at me was our fragility as investors, how easy it is for us to be engaged with our portfolios when things are going well and how testy we become when they are not. It is at times like these that you realise the importance of shutting the emotion out of investing by sticking to a pre-determined plan, investing regularly and not watching too closely what’s happening in the short term. Humankind cannot bear very much reality.
Tom Stevenson is an investment director at Fidelity International. The views are his own.
