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White Knuckle Investors with the Right Stuff

I'm a white knuckle flyer, not because I don't trust the airplanes, but because I don't trust the pilots. I think of them as unusually courageous, but a little too cavalier. That impression was formed at an early age when, as a young boy, I used to go with my dad to visit the crop-dusters who were helping him develop the first firefighting air-tankers. I remember hearing profanity-laced stories about flying so low that they cut swaths through the brush, or flying so close that there were propeller marks on their fuselages. For reasons I couldn't understand, they seemed to think it was quite funny to crash a plane and walk away from the wreckage.

Years later, an advertisement for The Right Stuff, a movie about the Mercury 7 project, described the original astronauts as having a "...macho seat-of-the-pants approach to the space program." I couldn't help thinking how appropriately those words also described the crop-dusters and their approach to the air-tanker program. So, even though the two groups flew entirely different aircrafts, they used a similar mental approach for handling the dangers they faced.

After listening to a 2013 PBS interview with astronaut Chris Hadfield, it appears that the current crop of astronauts have a less macho approach that stresses preparation over seat-of-the-pants improvisation. It came out in the interview that NASA puts astronauts through an exercise in which they focus on "what's the next thing that will kill me." To paraphrase Hadfield: It's counter-intuitive, you know, to visualize disaster, but by visualizing disaster, that's what keeps us alive. That's because we don't just live with it, we look at it, we dig into it, we think about it, and we get ready so when something happens that would normally panic us, we have a plan that we are comfortable with.

Similarly, Jason Zweig in Your Money and Your Brain says, "The best investors make a habit of putting procedures in place, in advance, that help inhibit the hot reactions of the emotional brain." And rebalancing is one of the best of those procedures. It works because it encourages good behavior in both good and bad markets. The idea is to first pick an appropriate balance between stocks and bonds and then to keep that balance constant by selling stocks when markets are rising and buying them when markets are falling. Its beauty is that it is a practical way of implementing Warren Buffett's adage " be fearful when others are greedy and to be greedy only when others are fearful."

Rebalancing is especially helpful in down markets when, as Zweig explains, fear acts " a branding iron that burns the memory of financial loss into your brain... [So] a market crash, which makes stocks cheaper, also makes investors less willing to buy them..." Unfortunately, it also makes them more willing to sell. That's why he says "...the average investor saw...nearly 10% less than he could have earned if he had just left his money completely alone." According to my unscientific numbers, that's also why the investor who rebalanced made 10% more than the investor who "just left his money alone."

Zweig says, "...rebalancing is the best way to lock yourself into buying low and selling high." And since rebalancing works best in fluctuating markets, Warren Buffett says to "Look at market fluctuations as your friend rather than your enemy; profit from folly rather than participate in it."

It took incredible courage for the air tanker pilots and the Mercury 7 astronauts to fly by the seat of their pants. I don't know many investors who have the nerve to invest in such a cavalier manner. That's why most investors should emulate the current crop of astronauts and have a plan. That way they don't have to be, as Hadfield put it, "...braver than other people... just... meticulously prepared." And that's how white knuckle investors can become investors with the right stuff to handle market fluctuations.