If you were to spend a day on the 7IM investment desk, every now and then you’d hear someone refer to the lizard.
No, we don’t (yet) have a team pet. The lizard is our shorthand for describing how irrational people can be when financial markets get stressful. Take market volatility for example.
The theory when it comes to handling market volatility sounds simple: stay invested. Simple, right?
But for many investors, the simplest thing to do is often the hardest, especially when the lizard part of our brain takes control and tries to scuttles us back to safety.
The investment facts are clear. Moving to cash and trying to “time” the market doesn’t work. No-one calls the top successfully, and no-one calls the bottom either.
But. Facts don’t matter to the lizard. Moving to cash is always tempting, because the lizard is loss-averse.
I hate losses. I’m sure you do too. It’s a basic rule of human psychology – people everywhere hate the thought of something they own being taken away from them. And these feelings drive our behaviour.
The lizard in our heads will do everything it can to avoid pain. Most of the time, we overrule the lizard in everyday life – we don’t look at every situation from a fight-or-flight perspective.
But in a situation of uncertainty and panic the lizard often reacts first and we struggle to control it. The lizard will always look for the safe option. So for loss-averse investors (i.e. all investors), the last few months have been very difficult.
In general, there are two particularly dangerous periods for people struggling to stay invested.
The Crash – Maximum Fear
The first is when things start going wrong, like March of this year when coronavirus really started to be taken seriously outside of Asia. Sharp falls in the FTSE 100, and scary headlines about death created a perfect storm of fear and panic.
At this moment of maximum fear, we expect calls and emails (my rough rule of thumb is that if the FTSE 100 is in the main newspaper, rather than the business section, the phones will be ringing).
At these times, it is understandable that investors want to sell everything – they may have lost money already, but it feels like the world is going to end. The lizard in their heads is going crazy, telling them not to lose any more, to get out with what they have, to take the safe option and sell.
The Bounce – Maximum Relief
The second danger period is more subtle and unexpected. It’s the recovery phase. When things get back to where they were before the crisis. For investors who stayed the course through the pain and have seen their portfolios rebound, there always comes this bit of time. They start to feel relieved that the money wasn’t lost. Phew.
But then they start thinking about how bad the pain was when they thought they’d lost the money. What if markets fall again? What if it’s worse? Shouldn’t they just be grateful to get out without a loss? The loss-averse lizard starts to panic, resulting in the same old suggestion to take the safe option and sell.