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Winter Charts: Reversal of Fortune

This year’s market events surrounding Brexit and the U.S. election, in particular, have exposed numerous flaws to this recency approach taken by the investing herd.

“Winter Charts” is a series of current financial topics explained in dots, lines, and only a few words –just the right “mix” to concisely convey ideas for critical thinking about investing. 

Over the past years, “recency bias” has become a more common element in asset allocation choices, and, at the same time, a significant yet underappreciated risk to investment returns. Investors like to buy what has worked in the past, and many naturally wish they had bought those particular assets much earlier. In consequence, every “dip” in markets is bought – often on irrational terms, and potentially not anchored in value decisions or a broader diversification framework.

This year’s market events surrounding Brexit and the U.S. election, in particular, have exposed numerous flaws to this recency approach taken by the investing herd. For example, the “big winners” prior to the U.S. election outcome have since sold off sharply, whereas the unpopular and underinvested laggards have gained. Important to recognize is also that the media-postulated narrative of a “risk on” market post-election is likely nothing more than a necessary “change of appetite,” or (even better) a function of  rerating of risk in various market segments.

The bottom line: Asset allocation choices need to follow a disciplined approach, anchored in 1) value decisions and 2) proper diversification. Market shifts will occur on a regular basis, but can rarely be timed successfully. A related concern is today’s heavy tilt towards passive investment choices vs. active management. In addition to the aspect of a repricing that is currently occurring in markets, expected overall lower returns paired with higher volatility will leave passive investors in an unfavorable position (see our recent piece, About Less Wrong, for additional insight).

Matthias Paul Kuhlmey is a partner and head of Global Investment Solutions (GIS) at HighTower Advisors. He serves as wealth manager to high net worth and ultra high net worth individuals, family offices and institutions.

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