The Tao of Wealth Management

In the world of investing there are any number of news items floating around every week (or every day) that can throw you off your game. Just last week, for example, we heard that technology companies were having their worst days ever. Not easy news to wake up to, but easy to get worked up about.

On Thursday we saw the much-maligned Facebook lose about 20% of its market value in a single day. Twitter and some other tech names promptly followed suit. Was this the coming of Tech-Armageddon? Should investors sell everything and go to cash? The news media had a field day.

Ironically, while this surely was disconcerting for folks who were too heavily invested in these companies, investors who were appropriately diversified felt minimal impact. In fact, on the day of Facebook's decline, major stock market indexes like the S&P 500 barely budged.

Although it can sometimes feel like the stock market is being driven by a few big-name companies, fortunately the reality is something different. The economy has been growing slowly and steadily for some time and many companies across various market sectors are doing well.

Consumers are doing well also. We saw confirmation of this by week's end with the government's quarterly GDP report showing our economy grew by a steady clip of 4.1% in the second quarter. While this pace isn't likely to continue in subsequent quarters, growth is still moving in the right direction.

Good news right on the heels of bad news understandably leads to a bit of economic and market whiplash. What are investors supposed to think? Should they run for the hills, rush to buy more, or... gasp... do nothing?

While I've previously written about how important it is to control what we can control, and to leave the rest for interesting conversation, it never gets old repeating myself. But don't just take my word for it. The following short article from Jim Parker at Dimensional Funds about the Tao of Wealth Management offers an interesting perspective.

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The path to success in many areas of life is paved with continual hard work, intense activity, and a day-to-day focus on results. However, for many investors who adopt this approach to managing their wealth, that can be turned upside down.

The Chinese philosophy of Taoism has a phrase for this: "wei wu-wei." In English, this translates as "do without doing." It means that in some areas of life, such as investing, greater activity does not necessarily translate into better results.

In Taoism, students are taught to let go of things they cannot control. To use an analogy, when you plant a tree, you choose a sunny spot with good soil and water. Apart from regular pruning, you let the tree grow.

This doesn't mean that we should always do nothing. In fact, insights from financial science suggest you should direct your investment efforts to the things you can control. These include taking account of your own preferences and sensitivities when choosing investment strategies, diversifying your allocation to moderate the ups and downs, being mindful of the impact of fees, and exercising discipline when emotions threaten to blow you off course.

Successful investing requires taking actions that can have a positive impact on the outcome. For instance, to maintain their desired asset allocation, investors should regularly rebalance their portfolio by reallocating money away from strongly performing assets.

But rebalancing is a disciplined, premeditated activity based on each person's circumstances. It contrasts with the "busyness" of reflexively following investment trends and chasing past returns promoted through financial media. Look at the person who fitfully watches business TV or who sits up at night researching stock tips.That sort of activity is likely counter-productive and can add cost without any associated benefit. With investing, constantly tinkering with an allocation does not perfectly correlate with success.

Now, while that makes sense, many people struggle to apply those principles because the media tends to look at investing through a different lens, focusing on today's news, which is already priced in, or on speculating about tomorrow. Guesswork can surely be interesting. But is it relevant to your long-term plan? Probably not.

People caught up in the day-to-day may constantly switch money managers based on past performance, or attempt tactical changes in their allocation, or respond in a knee-jerk way to news events that turn out to be noise.

Again, the assumption underlying these approaches is that if you put more effort into the external factors and adjust your position constantly, you will get better results. Unfortunately, people may end up earning poorer long-term returns from trading too much, chasing past performers, or attempting to time the market.

Ultimately, that's just another reminder of the potential benefits available to disciplined investors who stay focused on what they can control.

As the ancient Chinese proverb says: "By letting it go, it all gets done. The world is won by those who let it go. But when you try and try, the world is beyond the winning."

Have questions? Ask me. I can help.