The case for staying invested
Panicked investors tend to find riskier solutions than doing nothing at all.
More people died because of the 9/11 terrorist attacks than you might realise. Certainly more died than the general media realised.
For many people, a plane trip inspires a special kind of anxiety. There's something about flying that has a unique ability to inspire dread - and those fears went up dramatically following the 9/11 attacks. Already nervous flyers became paranoid and thousands avoided air travel. In the three months following 9/11, passenger miles fell by around 16% in the US.
People didn't stay home, though - they drove between cities instead. It was a terrible miscalculation of risk that led to a second toll of lives. The decrease in plane travel and concurrent spike in driving - which is more dangerous - led to at least 350 extra deaths on American roads during the final few months of 2001.
Behavioural psychologists have a name for this effect: dread risks. High-consequence, low-probability events trigger something in our brain that screams 'Run. Run as fast as you can'.
Unfortunately, humans are poor risk calculators, focusing too much on consequences and too little on probabilities - something insurance and lottery salesmen relish.
When we experience a catastrophic event - or see one in the news - we're prone to reaching for any solution that gets us out of that situation, even if the solution is riskier than not changing course.
Beware the shuffle
Financial crises, recessions, or even modest market declines - such as the dip in the ASX since October - are the dread risks of investing.
Common wisdom is that people panic during crises and sell their stocks in favour of safer assets, like cash. Remarkably, this isn't the case at all - at least not for experienced investors. German researchers studied the historical trading activity of 40,000 investors during the 2008-09 financial crisis and found that their allocation to equities was stable.
However, the investors were still duped by the dread risk effect. During the crisis, investors were more likely to shuffle their money around between professional money managers, individual stocks, passive funds and ETFs. 'The observed rebalancing was detrimental to portfolio performance,' the researchers concluded. Investors who abandoned professional money managers in favour of going it alone wound up with portfolios that were 30% more volatile than had they maintained their pre-crisis holdings.
It's natural to feel unsettled when the market dives but it's important to focus on the long term. Over very long periods, shares are one of the best-performing asset classes, and the best times to buy have usually been when everyone is panicking.
No-one knows when the next panic will come or how long it will last, so remaining fully invested is the safest course for most investors. As Jack Bogle liked to say, 'Don't do something, just stand there!'
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