Decisions Based On Own Circumstances Seldom ‘Mistakes’ Suit Your Own Mood, Not The Market’s

No matter how turbulent the Wall Street markets get, there’s a way to minimize the number of “mistakes” you make in managing your money.

It doesn’t require a lot of extra study or number-crunching. In fact, it may well reduce, rather than increase, the time and effort you spend on money matters.

The idea is simply to make decisions based on your own circumstances, goals and temperament, rather than trying to keep in synch with the changing moods of the markets.

As abstract and platitudinous as that may sound, it can represent a very concrete change in your approach to making choices, reducing the problems caused by emotions, second-guessing and other foibles of human nature.

Suppose, for example, that you still have an old, high-rate mortgage on a home you own, and are considering refinancing.

Instead of trying to outthink the credit markets and guess when rates on new mortgages will be at their absolute low point, you focus instead on the deals that are available right now.

If you find one that helps you achieve some significant benefit, such as lowering your monthly payment or shortening the time until the loan is paid off without busting your budget, you go for it.

Then you school yourself not to worry much afterwards about “woulda, coulda, shoulda” questions - for instance, whether an even better arrangement could have been struck if only you had waited a little longer.

Similarly, if you’re an income-conscious investor, you scan the market for opportunities available at the time you have money to put to work, and choose the ones that offer the best terms for you, taking both risk and reward into account.

If you buy a bond, say, and then watch interest rates jump soon afterward, you do not revile yourself for your bad judgment or rotten luck. You knew going in that you weren’t going to be able to predict the future course of interest rates.

By way of further illustration, suppose you had $80,000 in a retirement savings account at the start of 1996. Thanks to strong stock markets in recent years, the part of that account in a stock mutual fund had grown to $60,000, with the remaining $20,000 in a bond fund.

After considering your advancing age and other circumstances, you shifted $20,000 from the stock fund to the bond fund at New Year’s in order to protect yourself from the risks of heavy exposure to the stock market.

Then, in the first four months of 1996, the stock fund gained 12 percent while the bond fund had a total return of minus 3 percent.

A few minutes’ calculations show you that your yearend maneuver has cost you 15 percentage points worth of return on the $20,000 you moved, or $3,000.

But hold off on the self-flagellation for a moment. Your decision wasn’t based on the premise that bonds would necessarily do better than stocks right away.

Instead, it was made out of a sensible concern for diversification. In return for limiting your risk, you have accepted an overall return on your $80,000 for the first four months of this year of $3,600, instead of the $6,600 you could have earned otherwise.

No final verdict is in yet on the merits of your yearend transfer. Perhaps subsequent swings in bond and stock prices will make it look better than it does today.

But even if that doesn’t happen, you won’t automatically be proved to have been mistaken. Return was only one element in the figuring you used.

Another important consideration was protection of your principle from market risk - not by trying to pick the best market, but rather by diversifying across markets.