We love a bargain until we already own it
Money has a funny way of making perfectly rational people behave irrationally.
One example is our hesitancy to take advantage of buying opportunities.
Wait Until the Sale Is Over
I have an Advisor friend named Ruth.
Ruth has a client who did not want to invest any money in a particular down market. Worse yet, he wanted to liquidate a large part of his 401(k) and sit on the sidelines until things got better.
Ruth knew he shopped for his clothing at Nordstrom, and she knew Nordstrom has a big sale in the spring and a big sale in the fall.
Ruth reminded her client that the spring sale was approaching.
She told him he should go there during the sale and buy a new suit. He should tell the clerk he doesn’t want to pay the sale price. He’d rather pay retail.
He should instruct the clerk to hold onto the suit, and he would come back and pay for it after the sale was over.
“That’s crazy,” said the client.
“Well,” said Ruth, “that’s what you’re doing with your 401(k). You’re refusing to invest when things are on sale. Invest your money just like you buy clothing—when things are on sale.”
Think About Tuna Fish
Think of the way we buy tuna fish.
Tuna fish costs about $2.00 a can.
If Mom and Dad go to the grocery store Saturday morning and tuna fish is marked down to $1.00 a can, they will buy five cans of tuna fish.
I was willing to buy it yesterday at $2. Why wouldn’t I want more today at $1?
That’s the way folks shop, you and me included.
We shop for bargains in food and clothing and televisions and just about everything else.
We live for bargains.
Where we don’t shop for bargains is in our retirement accounts.
You are in a business where the stock market goes on sale and people run away. When stock market prices are going up, people throw money at you.
We’ve got to teach people to invest their money like they buy tuna fish and clothing.
Look for bargains.
The Difference Is Fear
That’s a tough sell because of a fundamental difference.
When tuna fish gets marked down, nobody panics and asks the store manager what’s wrong with the tuna industry. Nobody decides to let it get back up to $2.00 before they buy it.
They simply see an opportunity.
A person likes an ETF at $100 a share and buys it. Then the price falls to $90 a share.
They probably won’t buy more. In fact, they may very well want to sell the shares they already own.
We celebrate lower prices in ordinary purchases, but falling investment prices often produce nervousness instead.
Why is that?
Well, obviously, one big reason is the fear that gets ginned up when the stock market has a sale.
When Nordstrom has a sale, you will see signs all over the store. It is obvious opportunities await.
When we have a sale, we have signs all over as well.
Yet where Nordstrom signs say SALE in big fat letters, our signs say RECESSION FEARS or MARKETS PLUNGE, accompanied by a terrifying question:
What if this time it’s different?
The $100 in Our Heads
Psychologists call one reason for this anchoring.
Investors anchor when they rely too heavily on a familiar reference point when making a decision.
In our ETF example, $100 becomes the anchor. When the price falls to $90, investors don’t stop to consider the prospects going forward for the ETF.
Once $100 is planted in their heads, $90 feels like a loss rather than a lower price.
Once people get a price lodged in their minds, it influences how they see subsequent prices.
Imagine you walk into your favorite clothing store and see a sweater you really like. The sign says it is marked down from $200 to $120.
You would most likely see that as a good deal.
If the sign simply said $120, it wouldn’t feel like a bargain.
$200 is your anchor. You judged the $120 price against it.
Now let’s look at a $1,000,000 portfolio that rose to $1,300,000 and then fell to $900,000.
$1.3 million becomes the anchor. The client may feel as though he or she has lost $400,000.
The market doesn’t know that the client’s account was once worth $1.3 million.
But the client remembers.
The client is most likely not going to be willing to invest more money at that point. They are hoping to get back to $1.3 million.
When we’re buying, falling prices feel like opportunity.
Once we are invested, falling prices feel like loss.
The lesson is that we love a bargain until we already own it.
There Are Two Sides to Every Trade
There is something else clients often overlook when markets fall.
There are two sides to every trade.
Our ETF was $100. Now it’s $90 a share.
Every time someone sells an ETF at $90, someone else is willing to buy it at $90.
One investor looks at the price and sees danger.
Another looks at exactly the same price and sees opportunity.
It would be interesting to ask a client who wants to get out who he or she thinks is buying that ETF.
“Joe or Susie, when someone sells an ETF, someone else is buying it. There are two sides to every trade. You’re looking to get out because the price has fallen, yet someone else wants to buy your ETF because the price has fallen. Instead of selling, perhaps you should be thinking about adding to your account.”
We Love a Bargin
Maybe the next time the market goes on sale, we should remember how we behave everywhere else.
We love a bargain.
We just have to learn to love it after we already own it.
