There were so many big events competing for our attention this summer … said nearly every investor, almost every summer, ever. This idea is known as “recency bias.” When investing, however, it’s important to remember, we’re inherently biased to pay more attention to recent alarms than long-ago news. In the right context, this form of recency bias makes perfect sense. As we go about our lives, it’s often best to prioritize our most immediate concerns—or else. No wonder we’ve gotten so good at it.

However, as an investor, if you overemphasize the news that looms the largest, you’re far more likely to damage your investments than do them any favors. You’ll end up chasing hot trends, only to watch them combust or fizzle away. Or you’ll jump out during the downturns, without knowing when to jump back.

Yesterday’s News

How do we defend against recency bias? It can help to place current events in historical context. Do you remember what investors were worrying about a year, several years, or several decades ago? If you experienced some or all of these events first-hand, you might recall how you felt at the time, before we had today’s hindsight to inform our next steps:

• 2021: The Taliban takes control in Afghanistan, while a “ragtag army” of online traders led by Roaring Kitty storms Wall Street.
• 2020: COVID-19 shuts down economies worldwide. Civil unrest rides high across a gamut of socioeconomic concerns, and a divisive U.S. presidential election looms large.
• 2018: Two S. government shutdowns occur—in January and again at year-end, with the latter lasting more than a month.
• 2017: The year-end Tax Cuts and Jobs Act (TCJA) upends U.S. tax codes.
• 2016: The Brexit referendum and U.S. presidential election deliver surprising outcomes.
• 2015: A long-simmering Greek debt crisis
• 2013: A 16-day S. government shut-down occurs in the fall.
• 2012: The U.S. narrowly averts plummeting over a fiscal cliff.
• 2011: For the first time, the U.S. federal government credit rating is downgraded by one of the major rating agencies from AAA to AA+, and the Occupy Wallstreet movement is born.
• 2008: Wall Street broker and former NASDAQ chair Bernie Madoff is arrested for fraud.
• 2007: The Great Recession and global financial crisis
• 2001: The 9/11 terrorist attacks send global markets reeling. An accounting scandal at Enron culminates in the energy giant’s bankruptcy.
• 1999: The dot-com bubble bursts; the Y2K bug spurs massive, worldwide computer reprogramming.
• 1990: Iraq invades Kuwait.
• 1980:S. inflation peaks at 14.8%; Americans are marching in the streets over the price of groceries. Also, the U.S. Savings and Loan crisis begins, ultimately costing taxpayers an estimated $124 billion.
• 1973: An OPEC oil embargo “fueled bedlam in America.”

Investment Mainstays

These are just a few examples. They don’t include the market’s endless stream of lesser alarms that are easy to dismiss in hindsight, but often generate as much real-time storm and fury as the more memorable events.

The point is, there’s always something going on. And even as global markets persist, we forget or rewrite our memories, until they’re no longer available to inform our current resolve.

In the face of today’s challenges and tomorrow’s unknowns, we advise looking past recent trends, and focusing instead on a handful of investment basics that have stood the test of time. They may seem unremarkable compared to the breaking news. But when has “buy low, sell high,” or “a penny saved is a penny earned” become a bad idea once all the excitement is over?

First Save, Then Invest:

Recency tricks us into overpaying during heady times, and bailing at bargain rates, when our confidence fades.

One of the best ways to combat recency bias is by focusing instead on the basics that have served investors well for centuries, if not millennia.

In this blog, we will cover five of our favorites:

1. You can’t invest if you haven’t saved.
2. Markets are inspired by ingenuity, tempered by diversification.
3. The price you pay matters.
4. Patience is a virtue.
5. Investing is personal.

Saving Is a Super Power

Obviously, before you can invest, you have to save. But knowing this is true doesn’t always make it easy to do. Bottom line, saving is a sacrifice. When you set aside money for tomorrow, you don’t get to spend it today. There’s nothing fun about that.

Saving also isn’t as “exciting” as investing. When you invest, the stakes can be high: Some strike it rich, others suffer calamitous loss, and either makes for great headlines. (There are strategies for aiming more comfortably between these extremes.) 

In contrast, your basic savings account is unremarkable. It’s unlikely to either grow wildly or vanish overnight.

No wonder most people are far more attuned to their investment efforts than their saving strategies. There’s never a lack of analysts covering the latest market news, or experts’ opinions on what to do about it. Whether the coverage is good, bad, or ugly, there’s always plenty of it.

When was the last time someone reminded you how incredibly powerful it can be to simply keep adding new money to your accounts, no matter what the market is doing? Saving is important throughout your life, and an absolute super power when you or your loved ones are younger, with time on your side. In fact, when we’re in a bear market, as long as you have enough time before you need the money back (a decade or longer), it can be even more compelling to inject new money into your accounts. If you use fresh savings to add to your existing investments, you’re effectively buying in at discounted rates.

Give Your Savings a Nudge

It’s easy to cast our human biases as the bad guys when it comes to good investing. Letting recency bias skew your perspective is a prime example.

But our biases don’t have to hurt us. In “Nudge: The Final Edition,” Nobel Laureate Richard Thaler and Cass Sunstein describe scores of ways you can use your biases to nudge you toward making better decisions about your wealth, health, and well-being.

“A nudge … alters people’s behavior in a predictable way without forbidding any options or significantly changing their economic incentives. To count as a mere nudge, the intervention must be easy and cheap to avoid. Nudges are not taxes, fines, subsidies, bans, or mandates. Putting the fruit at eye level counts as a nudge. Banning junk food does not.”

Others can nudge you, as Thaler and Sunstein describe, or you can nudge yourself. For example, would you like to save more, but you’re having a hard time shaking loose the change? Consider using status quo bias as a force for good.

Embrace Your Inertia

It’s well studied that most of us tend to stick with the status quo whenever possible. Thaler and Sunstein have dubbed this our “yeah, whatever” bias.

Inertia can be expensive for example, if you let a streaming service keep charging you long after you’ve stopped using it, that’s wealth-wasting inertia. But you can also use inertia to your advantage, by setting up saving habits and processes on auto-pilot, so they “just happen.”

The idea is, you’re far more likely to save more effectively once you no longer have to make a choice, or take action to shift funds from your spendable coffers to your savings stash. For example, when your company auto-enrolls you in its 401(k)-retirement plan, for heaven’s sake, let them. Ditto if they have a formula for automatically increasing the percentage you contribute over time. You can also make a one-time choice to maximize the percentage you’re contributing. After that, inertia will kick in, making it less likely you’ll skip or skimp on saving for the future.

Self-Service Savings

You can set up similar, inertia-based saving habits by making a pledge to yourself that any “new” money coming your way will receive similar treatment.

For example, establish a rule that you’ll always set aside 10%, 20%, or whatever works for you, whenever you receive a raise, bonus, or equity compensation from work; a tax refund; a gift or inheritance; Social Security COLA increases; prize or lottery winnings; pocket change you’ve cashed in; proceeds from subscriptions you’ve canceled (despite your inertia); scratch from a yard sale; or any other one-time or ongoing income bumps.

The Restorative Powers of Saving

So, have you been watching the markets bouncing up, down, and all around this year, wondering whether the pundits who are predicting doom and gloom are correct? Please remember, there’s not much you can do to prevent market uncertainty. Even if there were, the uncertainty is in part what drives future returns. But you can save. You should save. You should keep saving. If you haven’t been, we understand that change is hard. Thanks to our biases, going with the flow usually seems easier, even if we’re dissatisfied with where it’s taking us.

Turn your biases on their head, by putting them to work for rather than against you. By pairing your saving goals with inertia-based rules and processes, you’re far more likely to succeed.

Marvelous Markets

Below, we will cover where stock market returns really come from, and why that matters to your investing.

1. You can’t invest if you haven’t saved.
2. Markets are inspired by ingenuity, tempered by diversification.
3. The price you pay matters.
4. Patience is a virtue.
5. Investing is personal.

Markets Are Robust and Random

Before we describe where stock market returns come from, consider these two quotes:

“Whether the currency a century from now is based on gold, seashells, shark teeth, or a piece of paper (as today), people will be willing to exchange a couple of minutes of their daily labor for a Coca-Cola or some See’s peanut brittle.”

— Berkshire Hathaway Chairman Warren Buffett

“Whenever you think you’ve found the key to the market, some SOB changes the lock.”

— E.F. Hutton & Co. Founder G.M. Loeb

So, which is it? Are market returns driven by the inexorable wheels of commerce, as Buffett’s quote suggests? Or do the market’s mysteries remain under lock and key?

The answer is yes—to both. Capital markets and market returns are concurrently robust and random. It’s up to us to accept both, and invest accordingly.

Markets Are Powered by Ingenuity

Viewing the market’s daily frenzy, it’s easy to forget where all that action is coming from to begin with. Close up, markets are a messy mash-up of companies, industries, sectors, and regions, often locked in fierce competition. But take a step back to view the whole. In aggregate, the stock market is also a forum for capitalizing on our collective ingenuity, which has generated amazing advances as well as strong investment returns over time.

This is at least the case for those who have been there to capture the returns when they occur. Examples abound to illustrate how often we may feel as if a source of returns has played itself out, only to find ourselves immersed in a fresh wave of entrepreneurs who have just begun to innovate. 

As Dimensional Fund Advisors’ Weston Wellington points out: “Sticks and stones led to hammers and spears, the wheel and axle, the steam engine, and eventually semiconductors and jet aircraft.”

Here’s how the late, great Vanguard founder John “Jack” Bogle described it:

“If you own the stock market for a lifetime, you get those returns. Playing games in the stock market, over every day of that time, is playing the stock market. The stock market game is rigged, the business of investing is not rigged.

Market Performance Is Sparked by Random Chance

Even as global enterprise continues to amaze us, it usually does so in a random walk. While you’ll almost always find handfuls of remarkably winning investments at any given time, you’ll also encounter bucketloads of losers. 

Moreover, the winners and losers can trade places on an unpredictable dime. As Dimensional’s Wellington observes: “The benefits of innovation are widely dispersed throughout the economy, often in unpredictable ways.”

Medical advances still playing out in response to the COVID pandemic are a recent example of both the powers and pitfalls of investing in global innovation. 

As described in this Canadian news piece, the pharmaceutical industry broke speed records in developing the COVID-19 vaccine in less than a year. The fastest prior vaccination was to protect against mumps in the 1960s. It took four years to develop. Creating a defense against Ebola took more than 20 years.

The relative success of the COVID vaccine was probably due in part to an urgent, “all hands on deck” mindset. But it was also thanks to years and years of unheralded research and development that gave the most recent breakthroughs a huge head start. 

While these earlier advances undoubtedly entailed ample time and money, they may or may not have richly rewarded investors at the time.

Capitalizing on the Engines of Ingenuity

It might help to think of the market as a mighty vehicle, like a train. When you climb aboard, your goal is to reach your desired destination by accumulating miles, or market returns, without derailing along the way. For that, you need a solid, Buffett-style engine of global commerce. But that engine also needs a supply of combustible fuel.

This illustrates why markets will always be messy and confusing at a close-up view. Only as we zoom out can we track our progress, in the shape of an upward line of market returns over time and across the long haul.

Because we expect the engines of ingenuity to continue chugging along, we have every reason to remain optimistic, and to stay invested as planned. We also understand why diversification remains equally essential to our efforts—because we never know just where the next sparks are going to fly.

By embracing the reality that stock market returns are random and robust, you can boost your ability to remain calm (or at least calmer) during the maelstroms, and improve your chances for reaching your investment goals over time.

The Price You Pay Matters:

Random Numbers, Efficiently Arranged

Why is Berkshire Hathaway Inc.’s Class A stock (BRK-A) priced at more than $400,000 per share as of mid-September 2022? Why do other stocks trade for pennies on the dollar? Why has Meta’s (META) share price dropped by more than half year to date, while Consol Energy Inc.’s (CEIX) has more than doubled?

As we touched on in above, we caution against trying to predict a stock’s next price based on the numbers at hand. But it helps to know those numbers are not drawn out of thin air. 

Both moods and mechanics factor into each price set every instant the markets are open for business. As a result, like markets in general, stock pricing can be both remarkably efficient in aggregate, as well as wildly unpredictable from one moment to the next.

Stock Prices and Power to the People

Behind all the number crunching and academic theory that goes into discovering a stock’s next price, many of the seemingly random mood swings have to do with whatever we, the people, collectively believe a stock is worth. 

Bids pour in from sources ranging from high-paid analysts and institutional managers, to hotshot day-traders and everyday investors. Combine them all, and the price is ultimately whatever actual buyers and sellers settle on when they trade.

Here’s how Sharpe has described market price-setting (emphasis ours):

“Simply put, when you think about securities markets, remember that the prices of securities are set by human beings trying to assess the range of future prospects for companies, governments, and other issuers. In a sense, the price of a security reflects the average opinion of investors about its future.”

Credited with establishing the capital asset pricing model, Sharpe is worth heeding. So is his fellow Nobel laureate Eugene F. Fama, who further explains why group-think pricing represents the best overall estimate of a stock’s worth in relatively efficient markets (emphasis ours):

“[T]here are large numbers of rational profit-maximizers actively competing, with each trying to predict future market values of individual securities, and where important current information is almost freely available to all participants.… In other words, in an efficient market at any point in time the actual price of a security will be a good estimate of its intrinsic value.”

An Investment’s Intrinsic Value

Circling back to the practical matter of making money as an investor, if we assume:

• Stock shares ultimately represent an ownership stake in a real company, delivering measurable goods or services.
• The price at which shares can be bought or sold is continuously set and reset by what market players collectively agree the shares are worth at any point in time, based on the company’s underlying metrics, as well as capricious investor sentiment.
• As long as a company keeps exceeding investor expectations, its stock price can keep climbing (although growth on growth often becomes increasingly difficult to sustain).

Does this mean stock prices are irrelevant? Should we be willing to pay any price for any promising investment?

Not so fast. Consider this warning from Sharpe, often overlooked by professional and individual traders alike during times of heady price-setting excitement:

“[I]n any given period … you could get higher return, you could get really higher return, you could also get your head handed to you. And a lot of people forgot that.”

In other words, academic insights help us understand why Berkshire Hathaway’s Class A shares have been able to exceed an astounding $500,000/share in stronger markets, without ever having imploded (yet). Markets are relatively efficient at setting roughly accurate prices based on a constant trade flow. 

As a result, stock markets have flourished over time and around the world, as have countless investors who have participated in their aggregate growth.

But these same insights also explain why real-time trading prices can swing wildly up and down around a target price. Which is why, as Berkshire Hathaway Chairman Warren Buffett has observed about buying stakes in a company: “What is smart at one price is stupid at another.”

Assuming the Price Is Right

Bottom line, the stock price you pay does matter, just not in the way many investors may think. By understanding how price-setting works, we can stop trying to game the system while it’s still in play. We focus instead on investing broadly, diversifying widely, and sticking around, as expected growth in overall stock prices translates into expected returns over time.

Patience and Personal Persistence:

So far, we’ve explored the history of investing; how important it is to save (so you have money to invest); how to invest efficiently in broad markets; and why to avoid chasing or fleeing rising or falling prices.

By applying these logistics, you are much better positioned to let capital markets work their wonders on your investments. But there are two more essentials that can make or break even the most sensible portfolio, and neither of them are about market dynamics. They’re about you.

Once you’ve structured your investments to capture available, risk-adjusted market returns, you’ll need to stay on track as planned.

This calls for channeling your ability to be patient, and for ensuring your personal goals—rather than shifting market conditions—are driving your ongoing decisions.

1. You can’t invest if you haven’t saved.
2. Markets are inspired by ingenuity, tempered by diversification.
3. The price you pay matters.
4. Patience is a virtue.
5. Investing is personal.

Investing Like a 90-Year-Old

As we touched on earlier in this blog, it’s risky to fixate on the most recent, random bursts of market activity. If you view the market close-up, you’re likely to perceive false, or at least misleading “patterns” that instill overly bleak or bold outlooks, even though all evidence suggests we cannot know what to expect next.

This, in turn, can trick you into making impatient investment choices that neither reflect nor advance your personal financial goals.

Instead, we suggest taking a wider view of the market across years of performance. This typically reveals a smoother upward progression—even if it rarely feels smooth at the time! Of course, we still can’t chart the future with certainty, but we can at least envision a range of potential dotted lines, generally pointing onward and upward … if you remain patient and participatory in the market’s expected growth.

As 92-year-old Warren Buffett observed:

“Our stay-put behavior reflects our view that the stock market serves as a relocation center at which money is moved from the active to the patient.”

— 1991 Berkshire Hathaway Shareholders Letter

Buffett wrote this statement more than 30 years ago, and was practicing it long before then. He hasn’t changed his tune either, as evidenced in this more recent reflection:

“Productive assets such as farms, real estate and, yes, business ownership produce wealth – lots of it. … All that’s required is the passage of time, an inner calm, ample diversification and a minimization of transactions and fees.”

— 2020 Berkshire Hathaway Shareholders Letter

Being patient, and preferring decades-long investment commitments has worked wonders for Buffett. You could do worse than to emulate someone who has been investing for 70-some years and has long been among the wealthiest people on the planet.

Investing Isn’t Always the Answer

However, before you decide to invest everything you own, there’s a related caveat: Not all your money belongs in the market.

First, even the most stoic investor’s patience can wear thin during periodic, occasionally lengthy downturns. Diversification, along with a ballast of more stable investments, can help you maintain your resolve during troubling times.

Beyond that, it’s critical to keep some cash, or cash-like assets on hand throughout your life, to fund near-term spending needs. The goal is to avoid a scenario in which you have critical upcoming expenses, but the only way to cover them is to sell investments that have just taken a beating in the market, or are otherwise tied up in holdings that can’t readily be converted to cash.

That said, holding too much cash comes with its own risks. Most notably, cash rarely keeps pace with inflation, which means you’re likely to lose spending power over time.

The trick is to balance investing toward future spending, with keeping enough cash on hand to cover upcoming expenses. For example, if your child is heading to college in the next year or two, you probably don’t want to wager their entire tuition bill on whether the market remains stable until then. On the other hand, if your child is still a toddler, you’ve got years to let that money earn market returns over time.

Which brings us to our final point.

Investing Is Personal

How do you decide how much to invest, and how much to keep in reserve for upcoming expenses (such as buying a home, paying for higher education, paying down debt, etc.)?

The answer is personal. The market is like an ocean: endless, ever-changeable, enduring. Since there’s no way you can control this greater force, how you choose to navigate it should be focused on your particulars. Not your neighbor’s interests. Not what the popular financial press would have you notice. Not what the tides have washed onto your financial beach most recently.

As you harness our previous investment essentials to build and manage your evidence-based investment portfolio, each decision you make should be grounded in your personal financial goals, when you want or need to achieve them, and which risk/reward trade offs you are willing or unwilling to make along the way.

To help you focus accordingly, we recommend forming a solid plan (which we can help with), and then automating as many of your investment decisions as possible. The fewer decisions you have to make or re-make, the less indecision will wear away at your resolve over time.

This advice is timeless. According to a recent article in the financial press, a Consumer Affairs survey listed 30-something Delyanne Barros as the second-most popular financial influencer among Gen-Z investors. We couldn’t help but notice how closely at least one of her tweets complemented Buffett’s advice, and ours (emphasis ours):

“Purchases I have automated: Paper Towels, Toilet Paper, Hair Products, Laundry Detergent, Body Wash, Tampons, Index Funds”

— @DelyanneMoney

In other words, your investments should remain personal, guided by your own wants and needs. Set aside what you need for upcoming spending. Automate the rest by turning to low-cost index- or index-like investments. Then, let the market do its long-term thing.

By following these essentials, you can spend less time deciding what to do next, and more time actually doing it. That’s a good idea at any age, and a great way to wrap our blog on investment basics.

We’d love to continue the conversation with you in person. Reach out to us to schedule some time to talk.

Ted Fischer

Financial Advisor at Fischer Investment Strategies | Website | + posts

Ted Fischer is a Fee-Only Certified Financial Planner® & fiduciary, and the founder of Fischer Investment Strategies.

Drawing from more than 25 years of experience in the financial services industry, Ted's expertise includes retirement planning, investment analysis, tax planning, estate planning, and insurance.

Ted has an extensive academic background. He received his Certified Financial Planning (CFP®) designation from UCLA in 2011. He became a Qualified Plan Financial Consultant (QPFC®) and an Accredited Investment Fiduciary (AIF®). Ted has a Bachelor of Science in Marketing, with a minor in Finance, from San Diego State University.

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