Carte Blanche syndrome, and the problem with buy and hold strategies

The father of modern economics, Adam Smith, once remarked that there was a ‘great deal of ruin in a nation,’ by which he meant that it takes an awful lot of bungling by political leaders to bring down a powerful and prosperous state.

After a period of nearly 36 months of sideways moving markets, investors across the globe have grown understandably frustrated, and many (if not most!) have considered the attraction of a stable, interest-yielding bank deposit as a means for growing their wealth. I have held countless discussions with investors over the past quarter to evaluate the merits of just such options, and the attraction appears justifiably warranted!

I have long been an ardent proponent of ‘buy and hold’ – an investment strategy where investors buy stocks and hold them for a long time. This is based on the view that in the long run, financial markets provide a good rate of return, even while taking into account a degree of volatility.

The problem with buy and hold strategies is not the maths that proves it works, it’s the evidence that suggests investors can’t do it.

At the time of writing, both local and global stock markets were trading at near record levels. Interest rates in developed markets were rising (albeit slowly), economic growth across the majority of the world’s economies was improving, and here in South Africa we had recently seen the first interest rate cut in years.

However, a mere few months ago, South Africa entered a technical recession – two consecutive quarters of our economy having gone backwards and contracted. This contributed to the SA Reserve Bank’s decision to reduce rates by 0.25% in an effort to stimulate the local economy. And while the economy has since emerged from this recession, many investors are still clamouring to move their investments into cash deposits to capitalise on fixed rates – rates that should likely come down even further.

In my opinion, the problem rests primarily on two psychological factors that blur one’s mind and have an impact on the kind of decision-making necessary to be a successful investor: confirmation bias and recency bias.

Confirmation bias is when an individual has a tendency to interpret new evidence as confirmation of his or her existing beliefs or theories. I often refer to this as Carte Blanche Syndrome, where individuals remain focused on the bad news surrounding them, ignoring any and all signs of positivity and improvements

Recency bias is when investors draw conclusions as to their portfolio’s future performance based solely on the most recent, historic results. This is most strongly exhibited by the rapid turns that stock markets take from their recent directions, and in what we have seen since the start of the third quarter.

At Octagon Financial, our principle objective is to insulate you from these emotional distortions and the proverbial Sunday afternoon braai-speak (where some of the

At Octagon Financial, our principle objective is to insulate you from these emotional distortions and the proverbial Sunday afternoon braai-speak (where some of the most fool-proof investment strategies and conventional wisdom are peddled), and ensure that your portfolios are constantly optimised and positioned to avoid the temptation of trying to ‘time the market’ and remaining firmly on the buy and hold course.

As shown in the attached visual, markets are cyclical, and it is the fortitude to stick with your long-term strategy during short-term bouts of uncertainty that separates the successful investor from the rest.

Remember, as the saying goes, bear markets are just bull markets in gestation!