My young bloke is a pretty physical kid. Most young boys are.
They like to test their physical limits, and often 'learn by doing'. It's a really normal and important part of their development, apparently.
And we let him take sensible risks, to help him build that confidence and capability.
Sometimes, though, when we judge a risk to be unreasonable, we'll step in.
"Mate, maybe don't do that… you might hurt yourself."
Most of the time he listens.
Sometimes, he tells me "I'll be right, Dad!"
And often he is.
"See, I told you I'd be fine" is his confident and slightly cheeky reply in those circumstances.
He's 11. So he's too young to understand the concept of probabilities and outcomes.
Just because you successfully juggle a chainsaw once, doesn't make it a good idea (no, he hasn't done that, for the record!)
See, one of the most important lessons in investing (and life, I reckon), is understanding that probabilities are just that.
Let's consider the toss of a fair coin. The odds are 50:50. But toss it once, and the outcome will be either 0:100 or 100:0.
The bloke who bets on black at the casino, wins, then says "See I told you it'd be black" isn't exactly showing a strong appreciation of probability.
But the 'See I told you I was right' thing isn't just prevalent among 11 year olds or gambling addicts.
It happens to investors, too.
I suspect it's just a biological force, overlaid with the psychological desire to protect our fragile egos.
But it's very real.
We love confirmation bias. We love being right.
When the shares we own go up, we're more than happy to tell ourselves how clever we are, and that we knew it all along.
When they go down… we tend to sweep it under the proverbial rug, or find someone or something else to blame.
(More than one of our members has told me their gains were due to their own ability, but their losses were the result of my bad advice…)
And why do things go up and down?
Well, in the short term, because other people think they're worth more or less. If 'the market' decides it doesn't like tech stocks, for example, investors will sell and the price will fall. If it takes the reverse view, lots of willing buyers will push the prices up.
In the long term? Well, sentiment never really goes away entirely, but the longer your time horizon, the more likely it is that 'price follows value'. In other words, your result is more likely to hinge on the success of the business itself, not the emotions of buyers and sellers.
A few examples:
How many investors, as the NASDAQ soared in 1998 and 1999, considered themselves 'right' for owning those tech stocks?
(The index subsequently fell 85%).
How many investors, during the COVID crash of March 2020, considered themselves 'wrong' because prices fell?
(The market recovered most of its losses very quickly, and is trading at record highs as I write this.)
Were NASDAQ investors right in 1999, then wrong in 2000? No. Tech stock prices were simply stupidly high. Indeed, it's more likely that investors were wrong in 1999 and right in 2000, as valuations went back to rational levels.
Were ASX investors wrong in March 2020, then right in the months that followed? No. The falls were way overdone, and the recovery was essentially just the realisation that people had panicked unnecessarily.
The investor who ignored both the irrational exuberance in 1999 and the irrational panic in 2020 was doing the right thing.
The problem? It's very, very hard to sit still in your seat when everyone around you is shouting 'fire'.
But it is the investor who can calmly assess the situation, and control their emotions as others lose their heads (in either direction) who stands to gain.
Or, as the Warren Buffett quote goes, "The stock market is a device to transfer money from the 'impatient' to the 'patient'".
Again, it can be very, very hard to do.
Watching everyone else get rich in 1999, while you looked at tech stocks and thought 'Those valuations are nuts', was incredibly difficult. It was tempting to just give in and join the rush.
Indeed, in late 1999, the US business magazine Barron's ran the infamous headline 'What's Wrong, Warren?' in response to Buffett's unwillingness to abandon his sensible investing approach and just join the party.
(Unsurprisingly, Buffett had the last laugh as the tech boom became the dot com crash just a matter of months later.)
Of course, not every rising share price is a crash waiting to happen.
And not every fall is evidence of irrational pessimism.
So what is the investor to do?
Well, as Buffett's mentor, Ben Graham, suggested:
"The stock investor is neither right or wrong because others agreed or disagreed with him; he is right because his facts and analysis are right."
(I would remove 'stock' from that quote – it's all investors. And these days, we'd use non-gendered language. But otherwise, the quote stacks up just as well today as it did almost a century ago, when he wrote it.)
And why am I telling you all this?
Well, in general it's a truism, and something we should remind ourselves of, regularly.
And specifically? Well, there was an article published recently that fell afoul of Graham's rule.
I'm not going to link it here, or share the author's name because I don't love a pile-on, and I don't want to use the bully pulpit of this space irresponsibly.
But the article essentially said "I was wrong about Bitcoin, because the price has gone up since the US Presidential election".
Now, I've long avoided Bitcoin (CRYPTO: BTC). And even writing the word 'Bitcoin' is going to bring out both the cultists and the crypto-haters.
(I bought some just to follow along a few years back, but have never – and still don't – consider it an investment-grade asset, for the record.)
Anyway, it's not really about Bitcoin (though that point will be missed in the stream of invective that comes my way!).
It's about the folly of believing that you were wrong (or right) about something just because of a short-term price movement.
Were investors 'right' about the NASDAQ in 1999, just because prices kept climbing? No.
Were investors 'wrong' about ASX stocks as the market fell 38% in early 2020? No.
Just as investors in Dutch tulips were wrong to believe the things were worth as much as a house during that particular bubble.
Remember Graham's words: You are neither right nor wrong because the market agrees or disagrees.
The investor is right if their long term investment thesis plays out as their analysis suggested it would. No matter what happens in the meantime.
Two final examples:
Take Amazon (I own shares). They fell 90% during the dot com crash. They fell 55% during the GFC. They dropped 30% during the COVID crash. And 50% during the 2022 tech sell-off. And overall? Google Finance tells me the shares are up 223,000% (yes, two-hundred and twenty three thousand percent) since the company listed.
Now take AMP Ltd (ASX: AMP). The shares went up 30% in early 2000. They rose 300% between 2003 and 2007. They jumped 50% in late 2009. And are up 67% in the last 12 months. Overall? The share price has fallen 88.5% over the last 25-odd years.
Maybe our erstwhile writer is correct. Maybe he will be eventually proven wrong, if Bitcoin stays at this price and/or goes higher. Maybe will be eventually proven right, if the price underperforms or falls from here.
They key thing? At this point, it's simply impossible to know.
All he can know is what the crowd is thinking. Not whether, in the fullness of time, the crowd was right.
More importantly, such thinking is likely to make returns worse for investors, as they chop and change based on… other people's emotions.
Which, when you think about it, is a funny way to invest.
Not unusual, and not even unreasonable – the concepts of 'the bandwagon effect' and 'social proof' are very hard to combat.
But it's probably going to lead you into trouble if you don't find a way to do turn down the noise.
At The Motley Fool, I've always said that early gains are welcome, but not definitive and certainly not final.
I'm always happy if my recommendations are up after a week, a month or a year.
But I've always said – and will always say – that 'success' owes far more to the mood of the market than to the fundamentals of the investment.
If I'm up after 12 months, I'm happy, but not doing victory laps.
If I'm down after a year, I'm unhappy, but unless the business has deteriorated or I realise I've made an analytical mistake, I'm not cutting bait.
Put plainly: neither you, I nor that author knows whether he's right or wrong about Bitcoin, over a timeframe of less than a month.
Investing is a long term game.
The spoils go to the careful and the patient, not the flighty and impatient. And they're calculated over years, not days.
Invest accordingly.
Fool on!
