Participants behaved (very) badly during the market drop in early February, forgetting the long-term, buy and hold nature endemic to 401k investing.
After relatively light trading in the face of such newsy events as Brexit, the Trump inauguration and possible North Korea-driven nuclear Armageddon, workers reversed course, and the market drop caused almost 12 times the “normal” level of trading activity, Alight Solutions reported at the time.
Now Research Affiliates has calculated the damage done by “doing something” based on short-term performance measurements, and it applies to professionals and participants alike. In addition to aforementioned panic-selling in market shocks, the long-term performance potential of a portfolio is degraded by chasing recent winners.
“Investment professionals can overdo performance measurement simply because technology makes it so easy and it seems a worthwhile task to constantly gauge if clients are on the path to meeting their long-term financial goals,” the smart beta shop said in a recent report.
“If we must regularly assess performance, let’s focus on performance relative to expectation distributions, such as a strategy’s expected tracking error of returns relative to its benchmark.”
“In the case of performance measurement, technology simply makes it so easy to run the numbers,” author Jonathan Treussard notes. “Keeping close tabs on portfolio performance must be ‘proof’ we are acting as responsible fiduciaries and investors and is a guide to us in making superior decisions. Unfortunately, the evidence suggests otherwise.”
The choice of “doing less” rather than more “has the distinct advantage of being a trading-cost-reducing strategy,” he adds. “As we de-emphasize the importance of short-term performance, we also gain an appreciation for the fact that long-term performance expectations have less noise built into them. Therefore, we can approach the task of assessing long-term performance with more confidence, though not certainty.”
And, he wisely concluded, over longer horizons, such as a 10-year window, “excess returns fall within a smaller range of outcomes, making performance measurement and managing to these measurements—thus bypassing the follies of return chasing—a more rewarding activity for advisors and their clients.”
With more than 20 years serving financial markets, John Sullivan is the former editor-in-chief of Investment Advisor magazine and retirement editor of ThinkAdvisor.com. Sullivan is also the former editor of Boomer Market Advisor and Bank Advisor magazines, and has a background in the insurance and investment industries in addition to his journalism roots.
