Turn Off Your TV

09/19/2011 6:30 am EST

Focus: MARKETS

Russel Kinnel

Editor, Morningstar FundInvestor

While investors might be able to access market information on a 24-hour basis, in real time, it isn’t necessarily a good thing, observes Russel Kinnel of Morningstar FundInvestor.

While regulators consider extending the fiduciary standard to brokers, maybe they should look at extending it to the 24-hour news cycle. In the past three years, fund investors have reacted much more forcefully to bad news, and are killing their portfolios in doing so.

It used to be that fund flows reflected fund returns from roughly the past two years. Funds with stronger two-year returns received inflows, and those with poor two-year figures got outflows. That’s not a great way to invest, but it certainly beats making hair-trigger sales as though you could predict the next day’s move.

In July, we saw massive outflows from equity funds that matched those from October 2008, even though the markets were in the black at the time and the past two years had been pretty strong. That tells me that a sizable chunk of investors regret not selling at the first hint of bad news on Lehman more than they regret failing to buy in the spring of 2009—even though the latter probably cost them more.

The week following the S&P downgrade of the United States saw flows get even wilder. Let’s take a look at daily flow figures. We receive this data on about half the fund world, so these figures are estimates, but I think they illustrate just how hypersensitive investors have become.

On Monday, August 8, roughly $3 billion was pulled out of US-stock funds and $800 million each was pulled out of both international-stock and taxable-bond funds. On Tuesday, things really got unhinged. Nearly $10 billion was taken out of US-stock funds, $3 billion from international-stock funds, and $6 billion from taxable-bond funds.

For the rest of the week, stock flows tapered off as stocks rallied every other day, but taxable-bond fund redemptions continued at more than $2 billion each day. Money markets saw big redemptions on Monday, big inflows on Tuesday, Wednesday, and Thursday, and then outflows again on Friday. Overall, money markets saw big inflows for the week.

In other words, people worried about America’s creditworthiness were taking money away from companies with extremely healthy, cash-rich balance sheets and lending it to Uncle Sam.

Sadly, we’re seeing investors lock in losses rather than bargain hunting. Watching cable news and business news channels or tracking every report or tick on the Internet can work you into a frenzy of worry. TV and Internet news sources get more viewers and readers the more they scare people and imply that the short-term direction of markets is predictable.

But remember that there has always been bad news in the world, and markets have overcome it. Moreover, news is always priced in by the markets faster than you can react.

Overindulging in cable news and business channels will make you dumber. Build a long-term plan and stick to it. After a long rally, it never hurts to build cash; in a long sell-off, you can slowly put that cash to work.

Jack Bogle likes to say, “Don’t just do something, sit there!” When in doubt, hold to your plan and don’t move around. I didn’t make any changes in the latest drama. Should the market move much lower from here, I’ll start to put a little more cash to work.

The fact that you can trade your funds daily doesn’t mean you should. Funds are best used by holding on for many years—equity funds for a minimum of five years and focused funds for a minimum of ten.

If you have a good plan and lots of cash and short-term bonds to cover near-term cash and emergency needs, you’ll find it’s pretty easy to hold on for the long term.

My colleagues at Ibbotson point out that insurance and annuities enable you to put more of the rest of your portfolio in long-term investments such as equities, as they offer your portfolio a greater backstop and reduced volatility.

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