How to Fight Mutual Fund Separation Anxiety Disorder and Build a Winning Portfolio.
What is mutual fund separation anxiety disorder?
You are a new investor. After a careful mutual fund research and evaluation, you select what appears to be the best mutual fund for your portfolio. This particular mutual fund has been delivering some solid returns over the last 5 years. You instantly fall in love with it! It is now one of the best performing funds in your portfolio. Unfortunately, a slew of stock market headwinds, including the threat and reality of a trade war between China and the United States, is testing the foundation of this relationship. To your dismay, the other funds in your portfolio show relatively more immunity to economic misfortunes; they are now outperforming your darling mutual fund. As weeks turn into months, your beloved mutual fund's losses continue to mount. "It will recover. I know it will. It always does," you reassure yourself. Sadly, the recovery doesn't happen. The fund continues to lose value. You refuse to divorce the fund. As months turn into years, you start to question whether your prized fund has been cheating on you all along. Finally, the unthinkable happens. You log in to your account and select your adored mutual fund. After a very long pause, you reluctantly hit the "trade" button, and voilà! The divorce is finalized. You sigh. You finally cut your losses, or did you?
Immediately after pulling the plug on your sweetheart, you can't help but to wonder whether or not you had made the right call. You can't stop checking on the well-being and performance of your ex. You are uncertain as to whether or not you want the fund to succeed. If it starts trading in positive territory, this will prove that you had made an ill-advised decision. Conversely, if it continues to deliver lackluster returns, your decision to have pulled the plug will be justified. But deep down in your heart, you want the fund to succeed, or do you? Perhaps you will pick it back up later; perhaps you won't. You can't stop thinking about the long gone fund. You are restless at night. Wow, the fund has mounted a stellar rally! Drenched in sweat, you wake up and grabbed your smartphone to check on its performance. You are dispirited; it was just a dream!
If you are an investor and can relate to this investment scenario, you may be suffering from what I coin mutual fund separation anxiety disorder. This vignette captures the essence of this investment disorder. How common is it?
The incidence of mutual fund separation anxiety disorder
I am not entirely sure of the prevalence of this phenomenon. But I surmise it affects all types of investors, particularly novice ones. How does an investor succumb to this unfortunate investment situation?
Some underlying causes of mutual fund anxiety disorder
The causes of mutual fund separation anxiety disorder are multifactorial. For the sake of brevity, I underline just a few of them.
- Failure to read a fund's prospectus. A fund's prospectus is an important document that gives investors information about a fund's investment strategy, risks, expense ratios, holdings, performance, among other things. This document also outlines the fact that past performance does not equal to future performance.
- Failure to understand that investing is long-term. Wealth is not acquired overnight; it is a long-term commitment. Robert Lloyd, an English poet and satirist, in reference to the "Tortoise and Hare" fable, famously said "slow and steady wins the race." This same basic principle can be applied to investing. Investing is not a sprint; it is a marathon. As such, an investor should exercise patience, perseverance and discipline when deciding to invest and save for retirement.
- Failure to have a well-defined investment objective or strategy. Having clearly-defined investing objectives help identify your risk tolerance and the amount of losses you are willing to tolerate.
- Failure to maintain a well-diversified portfolio. Diversification is at the heart of investing. It is the simple process of putting your money in different asset classes or sectors to minimize financial loss.
- Lack of investment knowledge. A lack of investing knowledge can lead to lofty and unrealistic market returns and expectations. This is a mistake that newbie investors commonly make. As Warren Buffet once put it, "The more you learn, the more you'll earn."
How do you treat mutual fund anxiety disorder?
Treatment for mutual fund separation anxiety disorder starts by understanding its root causes, as outlined above. To mitigate the effects of mutual fund separation anxiety disorder, an investor can 1) set realistic investing objectives; 2) maintain a well-diversified portfolio; 3) read a fund's prospectus; 4) invest for the long-term; 5) consider passive investing or hire a pro.
The bottom line
Mutual fund separation anxiety disorder is real. If left untreated, it can wreak undue stress on an investor, causing him/her to make irrational investment decisions. An investor can counter its effects by identifying its root causes and take appropriate steps. Some actions include: 1) recognizing that investing is long-term and carries risk; reading a fund's objective and prospectus; 2) being able to make an investment decision and accept the consequences; 3) maintaining a well-diversified portfolio to help mitigate the effects of stock market downturns; 4) understanding that a mutual fund's past performance is no guarantee of future results. Last but not least, an investor may also consider passive investing or low-cost index funds and ETFs investing.
If you want to avoid the stress of mutual fund separation anxiety disorder and leave investing to the pros, here are a few investment brokers and robo-advisors I think will suit your needs.
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