If you were to pick one culprit to explain the dismal returns experienced by the average mutual fund investor, what would it be? While sales charges and high MERs typically shave off 2% to 3% and taxes take their own toll on returns, the worst culprit was identified by Benjamin Graham:
The investor’s chief problem — and even his worst enemy — is likely to be himself.
Our emotions are the biggest enemy of successful investing. We chase investments that have run up in value and dump our holdings at market bottoms. This destructive behaviour costs us dearly. According to a 2003 Dalbar Inc. study, the average equity investor earned 2.57% compared to 12.22% for the S&P 500 over a period of 19 years. Ironically, the average bond investor did better than the average equity investor earning 4.24% annually, slightly higher than the inflation rate of 3.14%.
Overcoming our negative impulses is a life-long process but investors can make a start by devising a suitable asset allocation and sticking to it. By staying invested through the market highs and lows, investors can get their share of whatever returns the markets provide without being handicapped by their emotions.
PS: If you haven’t done so already, do enter your name in the book giveaway. Contest closes tomorrow at 8 p.m.