The Next Decade Will Likely Foil Most Financial Plans

There are two main reasons why returns over the next decade, or two, are currently being overestimated. The first is a “you problem,” the second is “math”.

It’s A You Problem

One of the biggest impediments to achieving long-term investment returns is the impact of emotionally driven investment mistakes.

Investor psychology is helpful in understanding the specific thoughts and actions that lead to poor decision-making. That psychology not only drives the “buy high/sell low” syndrome, but also the traps, triggers, and misconceptions that lead to a variety of irrational mistakes that reduce returns over time.

There are 9-distinct behaviors that tend to plague investors based on their personal experiences and unique personalities.

Decade Foil Financial Plans, The Next Decade Will Likely Foil Most Financial Plans

The biggest of these problems for individuals is the “herding effect” and “loss aversion.”

These two behaviors tend to function together compounding the issues of investor mistakes over time. As markets are rising, individuals are lead to believe that the current price trend will continue to last for an indefinite period. The longer the rising trend lasts, the more ingrained the belief becomes until the last of “holdouts” finally “buy-in” as the financial markets evolve into a “euphoric state.”

As the markets decline, there is a slow realization that “this decline” is something more than a “buy the dip” opportunity.  When losses mount, the anxiety of loss increases until individuals seek to “avert further loss” by selling.

The chart below shows that the behavioral trend runs counter-intuitive to the “buy low/sell high” investment rule.”

(Click on image to enlarge)

Decade Foil Financial Plans, The Next Decade Will Likely Foil Most Financial Plans

The impact of these emotionally driven mistakes leads to long-term under-performance well below those “goal-based” financial projections. According to Dalbar, this underperformance exists over exceptionally long time frames. 

Decade Foil Financial Plans, The Next Decade Will Likely Foil Most Financial Plans

It’s Just Math 

The vast majority of Americans actually have a relatively short timeframe in which to accumulate assets for retirement. For most, by the time a point in life is reached where one can seriously accumulate savings, it is about 15-20 years. 

And therein lies the problem.

As we have discussed previously in “Rationalizing High Valuations:”

“The mistake investors repeatedly make is dismissing the data in the short-term because there is no immediate impact on price returns. As noted above, valuations by their very nature are HORRIBLE predictors of 12-month returns. Investors avoid any investment strategy which has such a focus. In the longer term, however, valuations are strong predictors of expected returns.”

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