In the investment world, I think it’s fair to say, there’s a lot of nonsense and hot air. But there are a few people who are like the Shakespeare of personal finance: In virtually every word, there is great wisdom. Warren Buffett is probably the dean among this group. Another is Peter Lynch, who in the 1970s and 80s stewarded Fidelity’s Magellan Fund with enormous success.
Lynch is largely retired today, but his plainspoken advice is as valuable as ever. Below are some of the ideas he shared in a recent interview. This advice is especially valuable today, as the market is again near record highs.
Lynch began with a statement about the importance of mindset for investors:
“In the stock market, the most important organ is the stomach. It’s not the brain…Over the 13 years I ran Magellan, the market went down nine times 10% or more…It’s a question of what’s your tolerance for pain.”
Lynch makes an important point. Over the past decade, the market in the U.S. has mostly just gone higher. While this has been great for investors, it also carries great risk. As I have mentioned before, recency bias—the mind’s tendency to extrapolate from recent experience—can lull us into a false sense of security. To counter this, it’s important to have an appreciation for the entirety of market history—during which downturns have not been uncommon—and to plan accordingly. This leads to Lynch’s next point:
“You’ve got to look in the mirror every day and say: What am I going to do if the market goes down 10%? What do I do if it goes down 20%? Am I going to sell? Am I going to get out? If that’s your answer, you should consider reducing your stock holdings today.”
Today the S&P 500 stands at 3,000—up dramatically from its 2009 low of 666. So it is not inconceivable that the market might decline 10% or 20%. In fact, it did just that in December of last year, and the same sort of thing—or worse—could happen any time. That’s why it’s so important to do the thought experiment that Lynch recommends today, while the market is still high. You’d much rather reduce your stock market exposure at today’s peak prices than at a much lower level.
Lynch provides a further caution on this point:
“More people have lost money waiting for corrections and anticipating corrections than in the actual corrections. I mean, trying to predict market highs and lows is not productive.”
In simple terms: Don’t try to time the market. If you think a portfolio change is warranted, do it today. Don’t wait. Decades of research have shown that it’s futile to try to predict where the market is going next. Countless careers—and fortunes—have been ruined trying, and failing, to predict the market’s next move. All you can do is respond to the facts as they are.
To be clear, I recommend selling only if you see a need to. While there are many reasons you might decide to sell—an upcoming expense, rebalancing or a change in your circumstances or goals—you shouldn’t sell just because you think the market is high. Remember that Alan Greenspan’s famous “irrational exuberance” warning about the dot-com boom came in 1996. Yes, the market did eventually drop, but only after it continued rising for another three years. That’s the risk Lynch is highlighting.
Lynch’s final point: You should be especially wary of making investment decisions based on economic forecasts.
“I think if you spent over 13 minutes a year on economics, you’ve wasted over 10 minutes. I mean, it’s not helpful. Everybody wants to predict the future, and I’ve tried to call the 1-800 psychic hotlines. It hasn’t helped.”
Look no further than the past twelve months to see how right Lynch is about economic forecasts. As you’ll recall, the Federal Reserve had been on a course of raising interest rates. Those moves are largely responsible for the market drop in late-2018. But then, earlier this year, the Fed reversed course and started lowering rates again. This has been largely responsible for driving the market back up. I know of not a single person who predicted this seesaw. John Kenneth Galbraith, a noted economist himself, said it best: “The only function of economic forecasting is to make astrology look respectable.”