Warning: Alternative Facts May be Hazardous to your Portfolio Returns

Alternative facts may work sometimes in business and politics, but they don’t work with investments.  Returns are based on reality, which can be complicated, random and uncertain.

30 years ago, in his book, “The Art of the Deal,” Mr. Trump extolled the virtues of “truthful hyperbole” which he described as “an innocent form of hyperbole-and a very effective form of promotion.”  In interviews over the years, Mr. Trump has inflated everything from the size of his speaking fees to the cost of his golf club memberships to the number of units he had sold in his new Trump buildings.   His decades of habitually inflating claims about his business acumen and his wealth have helped produce lucrative licensing deals for the Trump brand around the world.

It is no surprise that President Trump has continued his pattern in his first days in office.  He has made inflated claims about how many people attended his inauguration, his insistence (contradicted by his own Twitter posts) that he had not feuded with the intelligence community, or his claim that Hillary Clinton won the popular vote only because millions of people voted for her illegally.  No worries. Trump adviser Kellyanne Conway simply refers to these as “alternative facts.”  Others might call these falsehoods, some would call them lies.  Regardless, they are part of the “post-truth” era in politics.  Very disturbing but apparently part of the current political landscape. Overall, it reminds some people of George Orwell’s “1984” in which the Ministry of Truth had three slogans:  “War is peace.  Freedom is slavery.  Ignorance is strength.” Yes, very scary.

Even so, in business and politics, alternative facts may be effective.  Voters live in their own bubbles of perception and confirmation bias.  Once they lock in on a candidate, it’s tough to change their minds regardless of subsequent facts.  It’s true- all of us have patterns of irrationality.   We all get lead astray.  This is described brilliantly in Michael Lewis’s new bestseller, “The Undoing Project.”  We can become victimized by the “halo effect” in which our thinking about one positive attribute causes us to perceive other strengths that aren’t really there.  Another is “representativeness” which leads us to see cause and effect when we should accept uncertainty or randomness.  Mr. Lewis showed how pioneer behavioral economists Daniel Kahneman and Amos Tversky demonstrated that all of us misanalyse all sorts of situations, in business, politics, and everyday life.  We accept alternative facts rather than true reality.

Investors can lose lots of money when their beliefs diverge from the reality and they are led by alternative facts and subjective reality.  They believe they understand major issues; such as how tax reform might impact corporate earnings, the odds for a recession, and repatriation of overseas capital.  The real problem is their absolute certainty in areas which are, in reality, uncertain or random.  (The U.S. election results and the markets’ behavior thereafter is a great example).

The subjective reality investor imagines they can understand complex issues and predict what the marketplace will do and even how specific sectors and individual securities will perform.  They exhibit “representativeness,” believing they understand the cause and effect, when it fact they should accept uncertainty or randomness.  Subjective reality investors often believe they know how to “time the market” which has been shown to be a losing strategy over and over again.  Even full-time mutual fund “active” managers consistently underperform benchmarks over time.  Using alternative facts and subjective reality, these subjective reality investors put their (and others) capital at far more risk than they should.  Sometimes they get lucky, most often they don’t.

What really gets these subjective reality investors in trouble is the difference between fact and opinion and falling prey to overconfidence.  No one knows the future.  None of us can possibly comprehend all the forces at work every day and how these continually change.  Each of us has our own baggage we bring to our decision-making every day that turns facts into opinions and often truth into alternative facts.

At DWM, we always say, focus on what you can control and respect what you can’t.  Establish a diversified portfolio with an asset allocation commensurate with your risk profile.  Keep costs low.  Stay tax efficient.  Stay invested.  Stay disciplined.  Monitor results and rebalance as necessary.  Don’t try to time the market.  Don’t think you’ve found the “silver bullet.”  Don’t kid yourself-your subjective beliefs and alternative facts can be hazardous to your portfolio returns.

DWM Fall 2015 Seminar Recap

emoji 2Money and emotions. Inseparable. We’re hard-wired that way. Since caveman times, we’ve always had an aversion to loss. And, that’s one of the reasons many people aren’t feeling so great about their money in 2015. All asset classes – equities, fixed income and alternatives – are all just about break-even for the first ten months of 2015. And, because our minds place more emphasis on recent events than longer term, many are wondering what lies ahead for their money and their net worth. Those were the subjects of our two annual seminars; yesterday at the Liberty Tap Room in Mt. Pleasant and last week at Emmett’s Brewery in Palatine. Both locations served as great places to not only deliver an important financial presentation, but also as a great place to just hang out and visit with one another.

In case you missed our 2015 seminar entitled “How Are You Feeling About Your Money Lately?” here are some of the highlights:

  • Looking at the last five centuries for clues to what’s coming next: Citing many facts from Northwestern University’s Dr. Robert Gordon’s report on U.S. economic growth, there have been waves of change. There was not much real economic growth before 1750. Then, in 1750, the first Industrial Revolution, which included steam and railroads, pushed economic growth for almost 8 decades. Industrial Revolution #2 was centered in the U.S. with the invention of cars, planes, electricity, communication and refrigeration. From 1870-1970, Americans moved from the farm to factories, working in the cities and manufacturing new products and buying them. It was a huge push on economic growth. Currently, we are in Industrial Revolution #3 covering the period 1960 until now and is characterized by computers, e-commerce and the internet. Dr. Gordon’s premise is that many of the positive characteristics in the 20th century that pushed economic growth, such as demographics, women entering the workplace, education advances, a rising middle class and low debt (federal, state and local) have diminished. Therefore, at this time it will be difficult for the U.S. to obtain an increase in its real growth rate of roughly 2% per year unless and until there is a major innovation breakthrough.
  • Last 100 years of bull markets and bear markets: Though bear markets seem “unbearable” when occurring, the fact is that they are much shorter in duration and much less in impact than bull markets. However, based on expected lower growth and inflation, the average annual stock market returns will likely be less in the coming decades than the 80’s and 90’s for example. Indeed, there will be bear markets at some point in the future. But that said, it is not wise to try to time the market; instead control the things you can control and stay invested in an appropriate diversified asset allocation and stick to your long-term investment plan.
  • Emotional biases: The markets are not rational because of human beings and their emotions and the fact that they sometimes trade on those emotions. As such, the markets tend to continually overshoot one way and then the other. Recency bias, loss aversion bias, anchoring bias, and other biases can have major (and typically bad) impacts on our decision making. For example, recency bias was the principal reason many investors felt compelled to get out of stocks in late September based on the last two months’ most dismal performance – had they traded on that emotion, they would have missed out the huge October rally upward. Emotional biases in investing can significantly disrupt sound investment plans but there are fortunately ways to cope including: understanding the problem exists, creating a culture of discipline which can be done by creating a sound investment plan (e.g. Investment Policy Statement), and working with a financial coach like DWM that keeps you and your emotions from hurting yourselves.
  • Other Key Metrics: Protecting and growing your net worth is much more than simply focusing on investment returns. One needs to regularly review and monitor other key measurements that matter. These include assets, additions to assets, planned date of financial independence, retirement income, inflation, investment returns, effective tax rates, goals (needs, wants and wishes), expected longevity, estate planning and stress testing, including risk management. There are many “financial advisors” out there willing to work with your investments, but not as many that are qualified and willing to go through a comprehensive financial planning process using the metrics above and providing other value-added services to completely help manage your financial life. DWM’s Total Wealth Management Process includes both Investment Management and Value-Added Services. The process has two parts: first, a series of initial meetings to review all aspects of a client’s financial life and provide review, recommendation and implementation. And, second, an ongoing process to monitor and adjust the plan through life’s twists and turns. It is focused on the client’s numbers and emotions and designed to help protect and grow their legacy and provide peace of mind.

For more information about the discussion above, don’t hesitate to contact us.

67 New Emojis Under Review

I’m sold. That bald-headed clown is really cute. I am going to start using emojis, including that one. Emojis really do a great job of communicating emotions.

I was intrigued this morning by the NYT article about the 67 new emojis under review. More about that process in a few minutes. But, first, a little information about how emojis were started.

In 1995, NTT Docomo, one of Japan’s largest mobile phone companies, added a heart symbol to its Pocket Bell devices. It became an instant hit, particularly with millions of high school kids. Market share of Docomo rose to 40%. However, apparently the “suits” took over and decided to abandon the heart symbol and replace it with Latin alphabet support and kanji, a system of Japanese writing using Chinese characters. Customers immediately jumped ship for Tokyo Telemessage. Docomo needed a killer app. Enter Shigetaka Kurita and the emoji.

Mr. Kurita was part of the team working on i-mode, designed to be the world’s first widespread mobile internet platform. Mr. Kurita and others visited San Francisco in 1998 to learn more about AT&T’s Pocket Net, the first cellular service to offer email and weather forecasts. It wasn’t fast- 19.2 Kbps- about 500 to 1,000 times slower than what we use today. Not only was it slow, but Japanese people were having a hard time getting used to the shorter, more casual nature of email as compared to long, verbose letters full of the sender’s emotions. They liked face to face conversation, telephone calls or long letters. Digital communication seemed to create misunderstandings and was void of warmth.

That’s when Mr. Kurita decided he could add faces, since he knew a heart would work. He grabbed some paper and a pencil and created 176 12×12 pixel characters. He wanted to cover the entire breadth of human emotion and looked to different elements of his childhood, including kanji and manga, a Japanese comic book.

With only a 12×12 grid, Mr. Kurita had to simplify his designs. The original grinning face has a rectangular mouth and upside-down Vs for eyes. His bullet train was lopsided. But, no worries, Kurita never envisioned them as art images, but rather as symbols. Docomo couldn’t get a copyright for the symbols and, subsequently, competitors launched their own emoji designs.

Standardization of the emoji came through a group called the Unicode Consortium. The group includes executives from Apple, Google, Facebook and other tech giants. Unicode was started in the late 1980s to develop a standardized code for text characters. They assign for every letter, number, symbol and punctuation mark, including an emoji, a specific number that a computer will recognize. Obviously, manufacturers will only use approved emojis with a computer number.

The consortium released Unicode Standard version 6.0 in October 2010 with 722 approved characters. Unicode 7.0 added 250 characters. Unicode 8.0 (released June 2015) added another 41 emojis including cricket bats, tacos, and signs of the Zodiac. And, now they are reviewing 67 hopefuls.

In deciding which emojis to add, the Consortium considers compatibility (with current emojis), frequency of use, and completeness. For example, the group added a mosque, a synagogue and a generic place of worship to complement the Christian church that was already included. This current group of wannabes also includes a large number of sports icons. That is to accommodate people watching the Olympics.

After the vote next May, the final version 9.0 will be issued in June. From there, manufacturers determine which ones they will add to their lineup of emojis on their phones. For users, there are lots of categories: people, nature, food and drink, celebration, activity, travel and places, flags, and objects and symbols. With over 1,000 emojis available and more on their way, it’s a great way to end a text message or a blog. Cheers!clinking-beer-mugs

Recent Success Projects Cubs to Win 2015 World Series!

cubs_headlineIt’s simple. The Cubs have won eight of their last nine games. If that pace continues for the next nine games, the Cubs will win the World Series for the first time since 1908. Wouldn’t that be wonderful!

Yes, let’s hope the Cubs do, in fact, get to the World Series and win it. However, how they fared in the last nine games may or may not extend for the next series or two. We don’t know what’s coming, although we would certainly love to see a Cub dynasty for the next century as was forecasted in 1908, based on the 1907 and 1908 victories. As you can see, it’s easy to use our recent experience as the baseline for what we think will happen in the future. In behavioral terms this is called “recency bias.”

Behavioral biases can have a big impact on our decision making, particularly in investment matters. As Jason Zweig points out in his book “Your Money and Your Brain”: “When you win, lose, or risk money, you stir up some of the most profound emotions a human being can ever feel.” It’s a very important topic. Brett and I will be talking about some of these behavioral biases at our seminars in Palatine on October 28 and Mt. Pleasant on November 4th.

The recency bias is one of the reasons undisciplined investors chase performance and buy high and sell low. When a bull market keeps rising, it’s not surprising that people will forget about the ups and downs in a typical market cycle and believe this upward trend will last forever. They keep adding more equities to their allocation and then are shocked when the bubble bursts.

Similarly, when the market is down, they become convinced that it will never go up again and emotionally want to put their money in a mattress. When investors sell low they are typically victims of the recency bias. Of course, these same folks will “jump back in” after the markets have come back and by then have missed out on much of the recovery.

Recent events are easier to remember and understand than either events in the distant past or unknown events in the future. Rather than doing the hard work of analyzing/understanding the full range of possibilities (both positive and negative) in the future and assessing/understanding probabilities to each, investors emotionally really don’t want to be “confused with facts”. Using recent events to make quick decisions is easier and in many circumstances in our daily lives it can work well. However, recency bias can be a problem when it impacts our investment decisions.

Recency bias gets amplified in down markets. Behavioral finance has demonstrated that fear is a stronger emotion that greed. So, in a year like 2015, when, after a strong January and February, the markets first go sideways and then start declining, the fear of losing money coupled with the recency bias of a weak market naturally causes people to worry about their funds, and for undisciplined investors to want to put money into cash.

Behavioral finance is a tremendously interesting topic. We look forward to seeing many of you at our seminars where we will discuss more about investor biases and how to avoid falling prey to them. And, perhaps by the time we meet, the Cubs will actually be on their way to winning the World Series. Let’s hope the prediction from the movie “Back to the Future 2” comes true. Go Cubs!