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The Cycle of Market Emotions

Whether we like to admit it or not, our emotions are the driving force behind most decisions we make.

When applied to investing, emotional decisions can lead to poor results.  The chart below identifies the various emotional stages that accompany the stock market cycle. We have been through this twice in the past 13 years. By identifying where on the graph you are, you can better understand the relationship of your emotions to the market.

Last year we began educating clients on the impact of low and rising interest rates on the more “secure” bond component of their portfolio. We talked about how after a 30 year bull run in bonds, clients would likely see at best, low returns in bonds and possibly negative returns if interest rates moved up quickly in the future. Most clients took this information in stride not having too much concern but understanding the situation. This is a non-emotional response since bond performance had been fine for some time. Fast forward to June 2013.

The recent comments by the US Federal Reserve caused significant volatility in the bond markets, pushing the broad bond index to a loss of over 3% year to date (DEX Bond Index). In recent meetings clients are asking questions about bonds and are concerned about what might happen.  Their anxiety level is increasing as the news of the day gets worse.   As the chart below shows, investors move through many emotional stages as they follow the stock market cycle. Clearly the best time to invest is at the bottom of the cycle and in hindsight this is easy to see. However if you think back to  March 2009 (the bottom of the stock market decline)  it may have been difficult to look past  the recent 50% decline and determine that you were at the point of maximum financial opportunity.

Fortunately, by using a relative strength approach to investing, we can make investing decisions without the cloud of emotions blurring our vision. Relative strength investing helps us identify the strongest asset class based on real time cash flow information among other measures. This is often counterintuitive to the market but can result in less volatility and more consistent performance.

How are you feeling about your investments? Find your emotion on the chart below and give us a call to discuss if you are concerned.

 

Market Emotions

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