Whenever I’m asked about investing—whether the market is likely to go up or down, what sectors to look at, and so forth—there’s one question I always ask before responding: What is the desired time frame? In my view, time frame is inseparable from any kind of reasonable response.
Put another way, decisions can be considered as urgent and short term versus important and long term. Something may be urgent—catching a bus, for example—but is not necessarily important, as another bus will be along shortly if the first one is missed. Similarly, something might be important—like estate planning or buying insurance—but not urgent. It can wait until another day.
What’s the trick?
One of the tricks of investing is distinguishing the urgent from the important. Does the Chinese devaluation really mean its economy is crumbling? No. Did the pending debt ceiling debacle mean a crisis if not resolved? Yes, so it’s a good thing that it was resolved.
A rule-based metric
In this blog, I try to focus on things that are both urgent and important. I don’t often write about market fluctuations, unless they seem like more than daily noise. That, in fact, is where the 200-day moving average filter comes in handy. By using a rule-based metric that I’ve tested, I can identify when normal market moves make that transition from noise to something that is urgent—and might be important.
On a broader scale, this is why I favor rule-based systems as a primary filter to determine what requires actual attention. You simply can’t respond to everything that seems urgent, without missing those things that are important but not urgent. The Checklist Manifesto by Atul Gawande is a great example of how this can work in multiple situations.
Focus on the time frame
Getting back to time frames, you can see that by having an appropriate decision framework, ideally, you’ll be able to focus at any one time on only those elements that are important and urgent. Important items will have been identified ahead of time, and you will have had a chance to develop plans using some of the ideas I have discussed before they become urgent. If you have thought through a problem ahead of time, it becomes less urgent when it actually happens; if you are focusing on only important things, you have the mental bandwidth to handle it.
A real-world example
Recently, the market dropped pretty substantially in the third quarter. I started paying attention, as I wrote at the time, when the S&P 500 broke its 200-day moving average (a rule-based decision). I worked out the possible downsides, as published here, while at the same time recognizing that this metric is wrong about two-thirds of the time. I then applied my own decision rules, worked out ahead of time, to my personal investments.
Was it fun? No, declines are never fun. But since I had already worked out what to do and had defined my own levels of urgency and importance, there was minimal stress. By knowing what I thought was important, I could act without urgency in a troubling situation.
The market ended up coming back, of course, and it looks likely to rise further. Does this mean what I did was wasted? I don’t think so. At some point, we will see a more sustained decline, and that same process will work then as well.
Here’s what won’t work: Trying to respond to urgent events on the fly. It gets even harder when the event is important and urgent. It’s interesting to watch page views on this blog spike when market turbulence hits, and I certainly appreciate the readership. But the real value is in thinking things through ahead of time—not in the immediate commentary around the event.