Now when talking about past performance there needs to be a distinction made between long term and short term.
The long term results can be looked at and analysed rationally, this in turn can help understand the short term results which often sets moods and emotions racing.
In the short term, good or bad, we often expect more of the same to continue – if it’s sunny no one can see the potential for rain and when it’s raining no one sees the potential for sunshine.
However, when analysing long term US returns over the past 80 years, it can be seen that the most recent trend of good or bad times is usually short lived.
Using average annualised returns for three year periods after the market has risen or fallen reveals that after periods of a strong rise or fall, the market will often turn in the opposite direction.
Following a strong bull market of 20% per annum returns, the next three years produce per annum returns of around -3%.
In contrast, the three year periods following severe bear markets of -20% per annum returns are regularly positive, with returns of 13% per annum.
Often these swings are due to the effect of valuations, which often reflect shares being overvalued at their peaks and undervalued in their troughs.
So, with every market fall, expected returns begin to look tempting enough that slight improvements in economic data can lead to a market rally.
Unfortunately, it’ s extremely tough to predict when turnarounds will come and the inevitable waiting and guessing game ends up testing many an investor’s patience.
This often leads investors to the vicious circle of chasing winners – investing in things that have already gone up and believing that past performance will continue.
A common mistake.
Peter Mancell is a director of Mancell Financial Group and FYG Planners AFSL/ACL 224543. This information is general in nature and readers should seek professional advice specific to their circumstances. Need help with your financial your financial future, we think we’re the best financial adviser in Australia.
