Swine Flu: Don't Panic! (Seriously. Don't.)

A few years ago they terrified us with chicken.

In 2009 it's pork, bacon and ham. Once again, the world's tastiest creatures appear bent on revenge.

Yes, we have another potential pandemic on our hands, this one goes by the name of Swine Flu. And like most every medical scare, the response is all out of proportion to the facts as we know them.

Since Swine Flu touched down here in New York City, it's all people seem to want to talk about. And the media reports rather than dowsing fears, have predictably poured gasoline on the fire.

"New virus"... "no known cure"... "quarantines"... "stockpiling Tamiflu"... and now this "money quote"; "I fully expect we will see deaths from this infection." (Richard Besser, acting director of the CDC.)

Scary, right?

A little perspective is called for here.

Yes, there may be deaths resulting from the Swine Flu in the United States. There have been 150 deaths (at last count) in Mexico.

But there are ALWAYS deaths from an outbreak of influenza. (Sad but true) How many? The CDC estimates that complications from influenza kill approximately 36,000 people each year.

Thirty-six. Thousand.

Today I read "Fears of Swine Flu" were the reason the DJIA gave its gains back. If this episode seems like a repeat (perhaps of repeat of Quincy), it is. A few years ago it was Avian (Bird) Flu that captured the imagination of the media. It weighed on the necks of the world markets, like an infected albatross.

Let's check the stats on that "Superbug". In the last 10 years (according to the World Health Organization) it has killed 248 people (as of January of '09).

Look, I am not making light of Swine Flu. It has already inflicted horrible suffering on people. It is truly a killer and all out effort to combat it should be taken with the utmost alacrity.

But if people feared the mundane killers out there a fraction as much as they fear these inflated medical scares, they'd never leave the house.

My wife, (bless her heart) worries when I take a plane. "Let me know when you get you there, honey", "Call me when you get in", she says to me.

What I (wisely) no longer bother to point out is that the most dangerous part of my journey arrives after I get into JFK.

Flying is amazingly safe. So safe, that when something bad happens amidst the millions of flights that take off every year, it makes news. More than that, it IS news. Cars on the other hand...

You know what kind of flying isn't safe? Flying down the Long Island Expressway at night and weaving in and out of traffic on the Triboro bridge at 75 miles an hour, while your Russian taxi driver is screaming epithets at his girlfriend over the phone.

That's legimitately terrifying.

Turbulence? Piece of cake.

So let's not lose sight of the baseline here.

We have enough real economic indicators out there scaring us already.

Do we really need the Pig Flu torpedoing our rallies?

Fear Index Highest in History

Our MarketPsych Fear Index is the highest in its 28 year history (the prior high was in March 2008). See our index page for the graphic.

As I've said in previous blog posts, it's important not to "catch the falling knife" in the markets. Don't buy the stocks that are plummeting until there is some news that addresses the underlying cause of the share price collapse.

Maybe that's why the markets continue to be so spooked. No one is addressing the root causes of the uncertainty. We've heard U.S. government officials say two things:
1. "We'll save you if you're too big to fail, otherwise too bad (example: Lehman)."
2. "We won't save anyone because that's socialism and uses taxpayers' money and these guys on Wall Street are soulless greedy louts anyway" (heard from presidential candidates and Senator Richard Shelby chairman of the U.S. House Banking Committee)

I think #1 doesn't go far enough. All these firms are interdependent, as we're again seeing with the collapse of Goldman and Morgan Stanley shares today.

I fundamentally disagree with #2. I'm a physician by training. When a patient is dying from a myocardial infarction (heart attack) it's not appropriate to teach them a lesson about eating well and exercising. If they survive, with your assistance, then yes you can lecture them after they've recovered, but while they're dying it's considered bad form.

In my opinion, we need to create a "Resolution Trust Corporation" type slush fund to absorb dodgy debt as we did with the S&L crisis. Yes, it will be extremely expensive. Perhaps we can have a special tax on financial companies to help pay for it. I suspect they would agree in order to stop the crisis.

As psychology experts, Frank and I know that the pain will continue as long as no one steps up to the plate and takes charge. Effective focused action is needed to root out the rot and identify the uncertainty. All the bad debt needs to come to light and be segregated from the good stuff.

In many cases the "bad" debt is in a descending positive feedback loop which reduces balance sheet values, which then causes further need for capital, then forced debt (CDS) sales, and again even lower market values due to more fire sales, etc.... If we waited a year or two, the CDS defaults wouldn't be as bad as anticipated. But with quarterly "mark to market" accounting rules, the companies holding this debt in the U.S. are in death spirals. And without real leadership, this has become the hurricane Katrina of the financial industry.

It's sad to see, because a little psychological saavy and leadership could have prevented this. Clear out the bad stuff, set it aside, and charge companies a lot (a dedicated tax) to manage it while markets stabilize.

But no one wanted to suffer the political consequences of being branded a "pinko." Too bad, because the rapid shock we're currently experiencing probably isn't the best for the country (or the world) in the long run. Psychological studies show that "ripping off the band-aid" causes more psychological distress and unhappiness than removing it slowly and gently. High finance has done an enormous service in globalizing and increasing the efficiency of our economy. Sad to see it left to waste in the name of ideology.

Richard

Financial Collapse?

Seems that principles may be trumping common sense today with the failed deals to back Lehman and AIG. It's not wise for the Fed and U.S. Treasury to give a lecture about moral hazard on Deck 5 as the Titanic is sinking.

Only one group has the credibility to prevent the collapse of significant U.S. banks(and later others in Europe) -- the Fed and U.S. Treasury. It appears that fear of indulging moral hazard (a principle) is prompting the Fed "to teach banks a lesson" today by allowing Lehman to collapse.

Lehman was the oldest bank on Wall Street. Lehman was relatively trusted and honest. Although it's true that Lehman has been circling the drain for a year -- see our prior blog post.

The core problem is that government economists assume people are rational. They assume that lessons will be learned and trust will be acquired by the most honest.

I'm from a psychiatry background. I don't think I've ever met a rational person. People respond to some rational direction for a while, but over time they are more likely to respond to incentives. The incentive structures on Wall Street (dictated by the Fed, Congress, and the SEC) are seriously deficient in this understanding of endemic irrationality and the limitless nature of uncontained greed.

The initial prevention was to impose adequate regulations (in advance) that would account for the lack of responsibility and short-term incentive structures on Wall Street. People are people (especially on Wall Street), and they will grab as many cookies from the cookie jar as possible if the lid is left open.

Lecturing Wall Streeters after they get diabetes is not helpful. Their diabetes has become contagious, and is infecting anyone within sneezing distance.

Locking the cookie jar, or limiting the outflows, is the only prevention. But it's not a solution now. We all have diabetes now, and we need our financial insulin (so to speak). But the private sector has run out of insulin.

The counterparty risk of Lehman's intertwined web of positions is unknown ($2 trillion in interrelated positions?). And that will spook the markets for weeks if not months as the carnage is sorted out (if it can be). Worse, the markets will continue to suffer as the disease spreads.

One thing I haven't seen in my (admittedly short) lifetime is fear that swelled into panic that caused a global financial collapse. I still haven't quite seen it, but we're getting close if no one (ahem, FED!!!) steps up to back the sagging real-estate linked assets of AIG and Lehman.

When ideology trumps practicality at the highest levels of policy making, we're all in trouble.

The Hong Kong government supported the Hang Seng in 1997 to prevent collapse, and it profited handsomely when offloading those shares (bought on the cheap) many years later. There are precedents for government support to excessively fearful markets, to restore confidence. With mortgage-related assets so cheap (and no willing buyers of size), and with the goverment inextricably bound to insure the performance of many banks anyway (through the FDIC), it makes little sense for the Fed and Treasury to dither.

Safe Investing!
Richard

Et Tu Lehman? The Contagion of Fear

There are many events, and more importantly RUMORS of events, putting the market on edge.

There has been a surge in the MarketPsych Fear Index, in part due to Lehman's potential implosion, this time due to excessive and illiquid leveraged positions. With Lehman's request for $6 billion to fill in the hole dug by CMOs and excess borrowing, the market is back on the brink.

All this in the context of early summer. Recall from a prior blog post that there is truth in the saying "Sell in May and Go Away" - here is a great graph of the effect.

The specter of world oil and commodity price shock, inflation, flooding in U.S. agricultural regions and drought in Australia's, war with Iran, and general purpose catastrophe has reared it's head again. I don't mean to be glib. There is danger afoot. This isn't one of those merry "buy on the pullbacks" type of markets. Or is it?

There is indeed a developed world deleveraging happening. Will that spread to the developing world? It appears to be anticipated in recent stock market performance, but then, that may have been developed world money fleeing those markets, which is my opinion. And that doesn't mean the sky is falling.

The "sucker's rally" Frank and I predicted in March has come and gone. The DJIA passed 13,000 and then dropped back again. So here we are again, down 8% for the year.

So it's not looking good for anything except commodities and oil? No, that's not what I'm saying. I'm fairly interested in technology, pipe (yes, steel tubes for drilling), recycling, shipping, land, and many mining stocks. India and China aren't slowing their growth much, even though the US is, and they use lots of raw materials still. One land and oil trust that I've held for years, and plan to hold for many more is Texas Pacific Land (TPL), and also a pipe company, WEBC. Yes I own shares in these, and if you try to buy WEBC, you'll move the market, so please don't.

But wait, I need a legal DISCLAIMER here of some sort. Hmmmm..... (nervously scratching my head)... OK, so don't buy TPL or WEBC. I'm not recommending them. I'm just saying they're out there. I don't want to get sued because someone bought one now and sold it when it fell or went bankrupt and they lost money. Like I said, "DON'T BUY TPL OR WEBC!!!!!" Please don't, really.

I think I'm covered now. Whew!

And here's what's interesting: when investors are primed to be cautious because of one bad event, they often extrapolate that danger into other spheres (in my case, fear of litigation). When in fact they might want to find inflation-hedged stocks, which will continue to perform over time. But this is very difficult to do when you're afraid, because of neural "priming" in the anterior insula of the brain.

A fascinating study which we profiled here, by neurofinance geniuses Brian Knutson and Camelia Kuhnen, demonstrated that activation in the brain's anterior insula predicted excessive risk avoidance in an investing task.

Building on this finding, Greg Larkin, Brian Knutson, and collaborators found that anterior insula activation appears beneficial for learning which dangers to avoid. See their paper here. A light summary in Psychology Today is here. Interestingly, people who are more constitutionally "neurotic" (nervous) have more insula activation when faced with monetary losses. While being "neurotic" isn't usually seen as a personal positive (especially by neurotic people, who are already predisposed to worry that something isn't right anyway), it turns out that neurotic people (with their greater reactivity of the insula), are better at learning to avoid financial losses going forward. Insula activation did not affect learning to pursue or avoid financial gains. So I didn't do the study justice here, but hopefully more on its implications later.

While perma-bulls buy on the dips, more anxious investors may be rightly on the sidelines, waiting for these storms to pass. And their sitting out the volatility has now been proven right a few times over the past 12 months. Yet, then they might get stuck sitting and never acting. The market is always a balancing act.

In our in-house research, it's not the absolute level of market fear that predicts a market rally, but a retreat from a high level to a lower one. That's what you'll want to look for before buying. And for the past 12 months we've had historically high levels of fear.

What causes such retreats from peaks to lower levels? It's usually a resolution of some dangerous anticipated event. For example, the collapse of Bear Stearns and the Fed's willingness to step up and put a floor under the CMO market. That resolved a tremendous amount of uncertainty.

If Lehman can raise $6 billion, at a not horrible price, then I think another level of uncertainty will be resolved.

If the Iranian government stops declaring they plan to wipe Israel off the map (fat chance!), then there's another level resolved.

So it looks like the fear will continue for a while..., but we'll still hae some ups and downs that present good buying oppotunities in select sectors.

Happy Investing!

Richard

Rally Ahoy? (again)

A short-term rally will probably happen this Spring. If so, it is a "sucker's rally."

Maybe it's a quirk of human psychology, but it seems like far too many investors buy at the high and sell at the low. It's such a common mistake that the inverse saying ("Buy high, Sell low") may be the most common in the Wall Street rule-book.

Many investors with cash may sit on the sidelines over the next few months as the stock market moves upwards. Near the high they will buy into the market, just when they can't take the pain of watching from the sidelines any longer.

We're coming off a Fear-bottom now (as Frank pointed out, the Bear-Stearns news was the straw that prompted a cleansing "capitulation"). It was "cleansing" because it knocked the weak money out of the stock market. Now strong money remains, and the race to Dow 13,000 is on again.

Why does this "Buy high and Sell low" misbehavior happen, and why is it so predictable? It seems to be one of the many mysteries of market psychology.

Richard

Visualizing Market Fear

How can you cope with market fear? Many investors consider this a crucial question. Yet it often isn't until periods of fear and sharp market downturns that investors think, "now I know I shouldn't sell everything, but it really hurts!" It's at these times that the excellent investors and traders stand out. They can muster the courage to buy in such markets, even as the financial news and media pundits are screaming, "The sky is falling!"


The MarketPsych Fear Index was displayed on the Wall Street Journal's C1 Money and Investing page a couple weeks ago (Tuesday, September 11, 2007) See article here. See left for the unsmoothed Index used in the article.

The MarketPsych Fear Index helps investors visualize the fear they are feeling that is affecting their judgment. Studies show that we're all affected by market fear, and it takes a lot of courage and experience to step back and see the fear and identify the opportunities that it creates. The first step is understanding that fear is contagious. The second step is identifying where it is and how strong it is. That's what our Index allows.

Now for a brief bit of self-congratulation. During his three CNBC appearances in August, Dr. Murtha rightly re-assured long-term investors that August was a good time to hold stocks, think long term, and consider buying where opportunities could be found. One of my blog posts called the bottom of the sell-off and predicted the rally to come.

Given the intensity of the recent fear, we're on track to continue a bullish Autumn for US equities. Malaysia (MAY) also looking good with deep discount to earnings (PE of 2) and declining dollar protection.

Interesting action (potentially near-term topping) in China. Tremendous profits made in Chinese shares so far the last couple years. Average PE is around 60 now (notwithstanding some accounting shenanigans, such as not counting state-owned shares towards market caps). More on China in another post.

Richard

Psychology 101: Investor Panic! ... Time to Buy?

The U.S. stock markets have dropped 4% this week, and investors' fear levels are near the yearly highs set in March. Investor psychology is a funny thing -- but it's predictable -- and understanding it can make you a lot of money.

We've been mentioning in our blog posts over the past 2 months that as the stock market has gone higher, investors have grown more and more nervous. They have felt inclined to sell to "cut their winners short" just to lock in their gains so far. A brief market sell-off is exactly what drives investors to feel afraid when they've already made so much money.

Let me offer myself as an example. Every 6 months I create a 10 stock portfolio using a basic Yahoo! stock screener and a little due diligence (calling company CFOs, reading SEC filings, etc...). Takes me about 8 hours to complete the whole process, and the average return has easily been over 20% annually. Here are some of the older portfolios (which I stopped posting after 2005 due to time constraints). This January's portfolio is already up 25%. Which is obviously better than anticipated.

Frankly, that 25% 8-month return scares me. My account is 25% larger in only 8-months. Wow, it feels good. However, like almost everyone else, I want to take that money off the table so I don't lose it. I'm susceptible to cutting winners short. Why don't I? Because I know that my nervousness is not a trading plan, it's a road to underperformance.

Using our Marketpsych sentiment analysis tools, we've been watching the pain level rise over the past week. See this Marketwatch article (which mentions our Investor Pain Index) for a few details. The chart below was generated using our real-time proprietary sentiment software and it is plotted against the QQQQ (Nasdaq 100 ETF):
This chart shows the relative amount of pain measured among investors.

As you can probably see in the chart, the last time pain was so high was a great time to invest. So consider using stomach-churning pain as a Buy indicator. You don't need to "catch the falling knife," but you may want to enter buy stops slightly above the market, because any "relief rally' will be fast and furious.

Personally, I think the pain will probably spike again (and the market will sell-off), in a second wave, before a real buying opportunity presents itself (August and Spetember are yet to come). Consider investing some idle cash during an August sell-off, although also consider somewhere safer than the US dollar (e.g. Singapore or Malaysia) when those markets get hit.

Best wishes,
Richard

The Fiddler's Green: Curse of the Adjustaholic

It was Blaise Pascal, the brilliant French mathematician, physicist and philosopher who said:

"All of men's miseries derive from a single source; his inability to sit peacefully in his room."

Pascal was not referring specifically to investing -- but he certainly was including it. We love to tinker, adjust and monkey with. At least I do.

My name is Frank, and I am an adjustaholic.

My affliction began early in my youth. I would fiddle incessantly with the old rabbit ear antennae on the "television set" in a futile effort to achieve picture perfect clarity on a 1974 Magnavox. I would indulge in impulsive, hare-brained schemes such as throwing the football in an effort to knock the frisbee out of the tree. And then throwing the tennis racket at the football.

By 5 o'clock the tree on my lawn looked like Dick's Sporting Goods.

Sure. I could have waited patiently for my dad to come home and retrieve the offending object. Could have for 2 minutes that is, before the restlessness set in.

I'm older now. I have an HD TV and I don't play much frisbee anymore. But I am still a fiddler.

It raises to mind a behavioral finance question: What is to become of the Fiddler's Green? I'm not referring to the traditional Irish song (which is great by the way), but to the financial portfolio of the modern adjustaholic. If you are an adjustaholic like I am, there are some days you have an urge to fiddle. Somedays you just wake up, get a cup of coffee... and you just really feel like buying a stock.

Any stock.

I'm gonna do it. I'm gonna buy... geez, I dunno... something in the IBD top 10! Like SYNL! And why not? It's # 1 on their list for crying out loud! What exactly does SYNL do? They print $$$ for their investors, THAT'S what they do! It's up to 45. Have you seen the chart! It's a rocket ship! Besides, I'll just cut my losses at 8% if it drops. (And I really will this time too.) But it won't drop! That's the beauty of it! You may say I'm joining a game of Musical Chairs at the Greater Fools Social Club, but they're playing the live version of Freebird - and they haven't even gotten to the guitar solo yet!

Do I really need to tell you what happened next? Suffice it to say I capped my losses at 8% this time. (Okay, 10%). And the fiddler loses some more green.

I recently had a conversation with my colleague, Dr. Peterson. I stated that we cannot change human nature, but that we could plan around it.

Dr. Peterson pointed out that the same human nature that bedevils our investing process is equally apparent in our planning processes.

He has an undeniable and somewhat depressing point.

Well, I still believe we CAN plan around human nature, but it is not easy. It requires honesty with ourselves and self-awareness. It requires having, at the ready, a behavioral alternative that is less self-destructive than placing a buy order. Sometimes it may require help. One of the best things a busybody investor can do is to have a partner - a financial advisor, a friend - someone they can call in his/her moments of weakness.

I'm serious. Alcoholics Anonymous, Gamblers Anonymous, Smokers Anonymous -- one of the most effective methods of stopping a destructive behavior is to reach out to another person when your will is faltering. It helps.

Pascal was right. I cannot sit peacefully in my room, the one with the computer in it... and the access to my brokerage account.

Next time I feel the urge to buy SYNL, maybe I'll call Rich. Or maybe I won't bother to sit in my room at all, and I'll go for a long, long walk instead.

The News is....Do the Opposite of What the News Says

I was pleasantly surprised to see the US markets up substantially today -- "the biggest one day gain of 2007" the media report.

To what do we owe this great day? Well, if you follow the daily financial media reports, then you'll see a few reasons put forward for the price jump -- declining bond yields, increasing retail sales, and diminishing concerns about inflation.

But that's today. Yesterday, per the financial media, investors were frightened when the 10-year bond yield symbolically breached 5%. According to the AP Business Wire today: "Rising bond yields amid inflation concerns had been pummeling stocks since last week."

Too often, the media is unhelpful for investors. Explaining events after the fact means little for future prices. In fact, future prices tend to do the opposite of what the news implies.

When the media is negative is actually the best time to buy. The chart to the left demonstrates how negativity in the media, this time around 9/11 and the war in Afghanistan, was inversely correlated with market returns. I quantified negativity by counting negative words (fear-related) in the Nightly Business Report online transcripts. A simple regression analysis found a significant inverse correlation between the prevalence of negative words in a transcript and the market's performance over the next week. No offense Paul Kangas and Susie Gharib, but your broadcast is useless for the average investor.

By the way, the above chart appears in my upcoming book, "Inside the Investor's Brain" (available from Wiley on July 9th).

When amateur investors hear the media experts predict a slowing economy after a sharp drop in the market, they get scared. When scared, they are more likely to sell. The financial news is better avoided by sensitive investors - those who might get scared at exactly the wrong times.

The media has numerous rationalizations, on a day-to-day basis, for the market's volatility. Beware. Paying attention to this information can be detrimental to your wealth.

Richard

Like the Kids Say... OMG,TMI!

There's and old expression; "A little bit of knowledge is a dangerous thing".

I'd like to add a corollary; "and so is a lot".

I was curious to see what the Market would do on Monday (June 4, 2007), because of the two events that occured on the weekend: 1) The Shanghai Composite dropped 8.3% and, 2) A terrorist plot to blow up JFK airport (and much of Queens) was nipped in the bud.

Truth be told, I was hoping for a nice big drop so I could go bargain hunting. But it was not to be. Perhaps because enough people shared my reactions; 1) The Shanghai Composite is a small and not terribly significant market that is nearly 70% comprised of small Chinese citizen investors - it shouldn't matter that much to us; 2) Oh, terrorists are hatching plans to blow up New York? Really? Tell me something I don't know.

And The Market shrugged. (Damnit)

So it didn't create the buying opportunity, I'd hope for. What it did do was call to mind our strange and paradoxical relationship with financial information; that we want more of it... and that getting it usually hurts our financial decisions.

Knowing too much hurts a lot of our decisions. In his book, Blink, Malcolm Gladwell details how Cook County Hospital simplified their ER triage. Their model eliminated all but four pieces of data to determine whether to admit a patient for a heart attack (electrocardiographic evidence, presence of unstable angina, fluid in the lungs, and a cutoff point for systolic blood pressure). Any additional data - even data that look relevant such as weight, age, etc. -- and the decisions got worse. To borrow an expression from teen-speak, it's "TMI" (Too Much Information.)

No one has understood or exploited the human mind's unhealthy relationship with TMI better than the Gambling Industry.

Ever been a horse track? The helpful track owners provide information on lap times, finishes in previous races, breeding, performance in mud, or rain, on grass, on dirt, the record of the jockeys... they give you literally 100s of different variables to factor into your decision. Does it help? No! It's TMI. Many data points are simply red herrings. But the relationships between the variables are too complex, and the sample sizes usually too small, to make any meaningful conclusions anyway.

The gambling industry knows that most gambling information is specious; it looks important, but is useless for prediction. Sometimes they even know that we know. At a roulette table, the board above the wheel posts the last 20 or so numbers that came up. Nothing could be more irrelevant, and only the most naive player doesn't understand this. But people actually pay attention to what happened before! They love it! "Oh, look. It hasn't hit # 23 in a while!", or "It's been black 4 times in a row now!" Seeking TMI isn't just a human inclination, it's fun!

So what of investing? With Blackberries, Real Time Market Quotes... Jim Cramer, we have more information than we know what to do with. And it's available any time. How do we sift through the haystack of data to find the needles or relevancy?

It starts with an understanding that much of the information we encounter is like that on the roulette board - interesting, but irrelevant. It also means recognizing that, even with quality information, you can have too much of a good thing. Lastly, we can recognize that information that is Frequent, Emotional Evocative in content, and Recent are most likely to be overly influencial in The Market's short term decision-making. (I would say that the terrorist plot meets the last two criteria and the Shanghai drop meets all three). It's a great way to spot short term buying and selling opportunities.

Simplify. Avoid TMI.

What's Your Ben & Jerry's Investing Moment?

The market has been setting a new record everyday now it seems. The Dow Jones Industrial Average closed on Friday at 13,264.62, a new all time high. And the broader Standard & Poor 500 Index also closed at 1505.62, also a new all time high.

I had a conversation with a friend the other day who is an active investor, and I mentioned that I'm 20% cash. He was surprised.

"You don't need to be 20% in cash!", he explained. "You're not going to need that money for 30 years. You should be more aggressive!"

And he's totally right.

Sort of.

I could certainly stand to me more fully invested. After all, we're talking about a long term investing horizon. And as one who drank the Kool-Aid long ago on the long term safety of equities, I should be able to do so with confidence.

But here's the problem.

One's investing strategy does not exist in a vacuum. It is dependent upon one's Investing Personality. Modern Portfolio Theory does a great job of determining what asset allocation strategy will maximize your returns. But if that investing strategy is not consistent with one's risk preferences, emotional resilience - even attention span, it will succeed in theory, but fail in practice.

Think of it this way: Investing plans are a lot like eating plans. If you want to lose weight, there are any number of diets that will do the job. Barnes and Noble bookshelves are full of them. But what makes a diet right for you, is not whether it "would work" (heck, they pretty much all work). What makes the diet right for you is that it is the plan that you can stick to.

And like proper eating, we're not talking about a short-term, "look good for a wedding" type of situation with our investments. We're talking about following a lifetime plan of prudence and self-discipline. So any long term investment plan doesn't have a built in mechanism for those Ben & Jerry's moments is ultimately doomed to fail. That's why the right plan for me is a sub-optimal investing strategy.

They say that truth lies in paradox. Well here's one for you; I can't be aggressive without a more conservative asset allocation.

When I explained that (emotionally) I needed a decent chunk in cash, my friend assumed it was because I needed to know that at least a part of my portfolio was "risk free". Actually, that doesn't quite hit it.

It's not that the money is "risk free" (i.e., I can't lose it). In fact, the cash position for me gets mentally classified as a loss; I feel like I'm losing money by not having it participate in the rally. No. The reason I need that money in cash is entirely different.

I don't mind risk. In fact, I like being aggressive. But in order to be aggressive (e.g., take some more speculative positions), I need a sense of control. I need to know that if the market gets whacked, I have cash ready to take advantage of it. That way I can cognitively reframe a "bad day" (lost money) into a "good day" (got some bargains). If I couldn't do that, the bad days would overwhelm my portfolio and knock me off course.

For me, losing money only becomes emotionally intolerable when I'm unable to take action, when I can't reclaim some sense of control.

That's my wings/pizza/cheesecake moment. That's when I screw up my plan.

What's your weakness? What are the temptations that push you off your plan? We invite you to check out some of Marketpsych.com's investor self-assessment tools to determine where you (or your client's) potential vulnerabilities may lie.

In the meantime, eat healthy and enjoy the bull market.

Investor Fear and Liquidity

“The key to making money in stocks is not to get scared out of them.”
~Peter Lynch

The market volatility the last few weeks has led to media speculation about possible causes: China's late February market plunge, the precarious financial straights of subprime mortgage lenders, and the biggest baddest reason of all .... Recession. In a different market climate, such events would have had little impact. But the market price action is now driven by emotional investors. By understanding how investors' fear generally plays out during such times, one can act proactively (rather than reacting) to such emotional markets.

Markets worldwide have been booming. In fact, on February 21st during a trip to India last month, I met the head of Asian investments for one of the largest New York-based hedge funds. He confided to me that "nothing in the world is cheap right now." And that was true for every broad asset class. In fact, the conclusion of our conversation was, "Only volatility is cheap." And that's a frightening position to be in. Within 2 days of our conversation the Bombay Sensex index began its latest correction, to be followed shortly by the Chinese and worldwide sell-off.

Many pundits have identified the "global liquidity glut" as the force behind stock market and commodity booms worldwide. But what is liquidity, really? Liquidity represents confidence -- the sense that one can borrow and make a greater return on their investments than the risk-free rate of return. And what is confidence but the lack of fear?

Today's sell-off is an opportunity. Many people who recently acquired risky assets are heading for the exits. But like last May, soon there will be a great time to load up on emerging market bargains.

Hundreds of billions of dollars have been committed to private equity, venture capital, and stock market investments in emerging markets. These outlays will be made over several years and will support emerging markets generally.

However, as with every opportunity, it's usually when it feels the hardest to buy, that the best price is available.

Richard