Who would like more stress in their lives? We are all feeling overwhelmed with the credit crises, de-leveraging crises, housing crises, banking crises, etc. We want to help reduce your stress level, so here are four ways to help reduce your investment stress:
1. STOP TRADING SO MUCH
Over-trading is one of the surest ways to crank up your stress level – and hurt your portfolio returns. If the transaction costs don’t kill you, the stress will. In a study conducted by University of California finance professors Barber and Odean, active traders underperformed the market average by nearly seven percentage points.
“Our central message is that trading is dangerous to your wealth,” they wrote. It is far better – both for your emotional and financial well-being – to buy and hold high quality investments whose earnings and dividends rise over time.
2. STOP CHECKING PORTFOLIO EVERY DAY
Watching your portfolio like a hawk may seem like the thing to do, but it is a recipe for stress and disaster. Why? It has to do with basic math, and the way the human brain processes winning and losing. Suppose your portfolio returns 15% with a risk level (or standard deviation ratio) of 10% annually.
Given these assumptions:
- your portfolio has a 93% chance of rising in any given year
- In any given quarter there is a 77% chance of gains
- In any given month the odds fall to 67%
- And if you check your portfolio daily, the probability of it being up is just 51.3%.
In other words, you will be disappointed roughly half the time if you check your account daily.
Now consider this: Research has shown that people experience more emotional pain from a financial loss than joy from a financial gain. So…if you check your portfolio often, you are going to be stressed almost 50% of the time. And in a bear market, you will be downright miserable.
3. FIND A BALANCE
This is the simplest and most powerful investing truism when building portfolios: How much risk can you handle? Once you find the right mix, stick with it. That means re-balancing on a regular basis (suggested annually) which is less stressful than trying to guess which way the market is heading.
Finding the risk level you can tolerate is almost as stressful as the market itself. Everyone takes a stab at this “risk measurement.” We have found the more at stake, the more stressful investors become. After twenty years in the financial business, we think we have found the reason why: losing 10% on $10,000 is one thing but losing 10% on a million may be another thing. So…look at your risk loss limit (in terms of percentage losses and dollar losses) and determine what loss limit you can tolerate:
On $10,000, this is a loss of $1,000
On $1 million, this is a loss of $100,000
4. WRITE DOWN YOUR INVESTMENT PLAN
Much like a written blueprint for building a house, a written investment blueprint should be used when building a portfolio. This includes your risk level (see#3), your time period for investing, your income needs, return expected, when you will retire, etc.
When markets become volatile, pull out your plan and see if you are following your “blueprint” or if you somehow went off course.