Why Some Investors Must Be Miserable

A benefit of the Apollo missions was the phrase, "If we can put a man on the moon, surely we can ..." It offered optimism that we can solve almost any complex problem.

So, if we can put a man on the moon, surely we can improve financial education enough to convince all investors to stop making poorly timed, ill-informed, overpriced, and emotionally driven investment decisions.



It will never, ever happen as a group, at least.

There is an unbreakable rule of financial markets that is as important as it is depressing: Some people must have a miserable experience. No amount of technology or education will ever change this. One hundred years from now there will be as many stories of investors shooting themselves in the foot as there are today, and as there were 100 years ago.

Two points, neither of which are controversial, show why this is.

The first is that stocks are a volatile mess, and they always will be. They have to be.

If there were no booms and busts, no bear markets or wild bubbles, no unexplained 10% sell-offs, and stocks casually drifted upward year after year, something inevitable would happen: Everyone would put all their money into stocks. Why wouldn't you? If there's no downside and stocks offer higher returns than cash or bonds, you'd be crazy to not put every cent to your name in stocks, plus mortgage your house to add more. As soon as that happened, prices would rise and stocks would get extremely expensive. And soon after they get expensive, history shows, volatility isn't too far behind, as an inevitable bout of bad news strikes andreality slams into expectations.

The paradox is that as soon as you promise no volatility in the stock market or when people start believing that to be the case the fuse of future volatility is lit. No crashes increase the odds of a future crash. That's why markets will always be volatile.

The second point is understanding what volatility is. Pundits often say "people sell stocks when they're low." But it's actually the other way around. Stocks become low because people sell them. The specific reason there's market volatility is that some people get scared out of stocks, selling them and driving down prices.

So, volatility is guaranteed as a fundamental part of how markets work. And volatility is just a representation of people having a bad experience in stocks. That's why the pain, the suffering, the disappointment, and poor behavior will never go away. It can't. People will be losing money in stocks 10, 20, 50, and 100 years from now.

Two things happen when you accept this reality.

One is that volatility takes on a new meaning. Every downturn comes with two reactions: "I'm surprised this is happening," and "why is this happening?" Accepting the reality of volatility answers both questions. No one should be surprised when the market drops, because if it never dropped it would get so expensive that no one would be interested in it anymore, which would make it drop. And the answer to "why is this happening?" is blindingly simple. It's happening because, at every point in time, someone's patience is tested enough to be one of those people no longer interested in stocks. It has always been, and always will be, this way.

The second is a guide toward improvement. Some people must get scared out of stocks, and the surest way to improve your odds of success is moving mountains to not be one of them. This includes: Having enough liquid cash to make it through inevitable periods of disappointment, having a working knowledge of the frequency of market declines, goals at least 5-10 years in the future, and an almost pathological inability to care what the market does in the short run.The good news is doing this becomes easier when you accept the reality of volatility.

For more:

The article Why Some Investors Must Be Miserable originally appeared on Fool.com.

Contact Morgan Housel at mhousel@fool.com. The Motley Fool has a disclosure policy.

Copyright 1995 - 2016 The Motley Fool, LLC. All rights reserved. The Motley Fool has a disclosure policy.