The Economics of Confidence
Confident investors don’t waver.
It’s easy to underestimate human emotions.
As a finance/investment nerd, I’m “that guy” when it comes to investing. People like to ask me, “if you could choose one investment for me, what would it be?” To which I reply, “How much do you know about investing?”
How much do investors know? It matters. Because a plan is only as good as the ability to cling on when the going gets rough. Confidence stems from personal research, experience weathering the stock market, and a clear idea of what investors want from the stock market beyond more money = better life.
There are two types of confidence commonly seen in investors: confidence in their investments, or confidence in the person managing their investments.
Let’s pretend investing is like flying a plane. Depending on whether they manage their own investments, investors are either pilots or the passengers.
First, let’s look at the pilots: investors who manage their own investments.
If pilots have confidence in their investments, they’ll only evacuate when logic demands the plane is going to crash; when others grow afraid, they carefully go over their charts and maps and consult with their co-pilots and confirm yes, the plane is going to crash, or, more likely, it’s just a rough patch — no evacuation necessary. They hold, and life goes on.
Pilots who don’t have confidence in their investments — who lack maps, charts, co-pilots, and all the good, reasonable things upon which investors found their confidence — look at the flashing knobs and decide, rightly, that they don’t have the information necessary to determine whether the plane is in free-fall. They hit the EJECT button. For long-term investors, this means timing the market.
Humanity, on the whole, has a terrible record for timing the market.
Next, let’s look at passengers: investors who are simply along for the ride and delegate the day-to-day investing to money managers.
If passengers have confidence in their investment managers, they’ll ignore the day-to-day shuddering of the plane. Occasionally, during times of extreme turbulence, they may flag down flight attendants to complain or request reassurance, but so long as the pilots remains confident, the passengers remain, if not totally satisfied, then satisfied enough to let the pilots steer.
Passengers who don’t have confidence in their pilots point fingers and flip meal trays when lightning strikes the plane, or when the plane dips, rises, and dips again. They are unsettled, and rightly so — it was foolish to entrust their financial lives to pilots whom they distrust.
Like the insecure pilots, insecure passengers will succumb to short-term downward market pressure.
This is all self-evident. But confidence is only a word until it is the plane springs a leak, the wing snaps, and the whole vehicle appears to be taking a nose-dive straight into the the Atlantic.
Which leads me to the following conclusion: no matter how well an asset has performed in the past, it is a poor investment without a benchmark by which to measure its current success (or lack thereof).
In other words, investors who think successful companies=stock price go up are doomed to sell when the going gets rough, because they have no incentive to hold when things seem dire.
So when my a friend asks me, “What should I invest in?” I consider their current knowledge of the stock market. If they’re clueless, I recommend they invest in less stress-inducing holdings, like index funds and 401ks. No, these aren’t the highest-yielding investments. No, these aren’t where I put my own money. But it’s probably right for them.
Confidence matters. As someone who sold Tesla before it 10x’d, I’ve figured out the hard way that just because a stock is performing poorly right now doesn’t mean it will perform poorly in the future. Often, a nosedive is just a bit of turbulence on the way to where I need to go.
Being able to distinguish a true nosedive from a brief dip is challenging. I haven’t solved this puzzle yet. But if there’s one thing I’m sure of, it’s that having confidence in my investments will be key to my financial success.
Bon voyage, friend. Happy flying.
