NWP Monthly Digest | March 2024
2024 Feels Like Déjà Vu All Over Again
2023 was a year that defied expectations, showcasing the unpredictable nature of financial markets and the power of innovation in technology. Who would have expected the US stock market to rise 25% last year? Especially while navigating through aggressive monetary policy and the failure of some prominent banks in the spring. The rise of technology stocks piggybacking off the euphoria from the artificial intelligence mania kickstarted by ChatGPT early last year. The result - the largest US stocks bounced back with strong earnings, but the perceived safety and optimistic possibilities surrounding alternative investments put the stock market rally on steroids. Take Nvidia, the poster child of the AI frenzy and one of the biggest beneficiaries, as its semiconductor chips power almost all the technology. The consensus on Wall Street was that Nvidia would be one of the biggest beneficiaries of this technological advancement.
Prior to the AI boom in the fiscal year ending January 31, 2023, Nvidia had earnings of less than $5 billion. However, the stock was valued at over $500 billion. This valuation was based on analysts' expectations that earnings would more than double with the AI tailwind. Although the future looked promising, the bar was set high to achieve above-market returns. As it turned out, Nvidia's earnings surpassed all expectations, reaching stratospheric heights that were beyond the initial bar set. In just one quarter, Nvidia is now expected to generate around $12 billion in income!
Nvidia surely came back down to earth after rising over 200% in 2023…right? Think again. Nvidia didn’t miss a beat and is up over 50% to start the year. In fact, many of the key themes of 2023 are marching along to the same beat this year. Large, US-focused technology companies continue to be in vogue, while their smaller peers appear apathetic, along with blue-chip stocks, international stocks, and bonds. Déjà vu again? Yogi Berra, a Hall-of-Fame baseball player, but he could easily be the GOAT when it comes to aphorisms. Mr. Berra once made the ironic remark that draws parallels with the investment landscape in 2024, “It's déjà vu all over again.” Two months into the year, and it feels like we've seen this movie before. The only difference is we don't know how this one ends.
Nvidia's stock price rose over 200% in 2023 and many thought it would come back down to earth. However, it continued to rise and is now up over 50% this year. This is happening alongside other key themes from last year, such as large US technology companies being popular while their smaller peers, blue-chip stocks, international stocks, and bonds are not. It feels like we've seen this before, a familiar experience with a slight twist. It's like Yogi Berra's ironic remark, "It's déjà vu all over again." The investment landscape in 2024 seems to be following the same path as last year, but we don't know how it will end.
But then, why do investors believe they can presage the direction of the stock markets? Unfortunately, many of these investors do not have any prescient abilities and are instead just innocent bystanders of psychological biases. Investment biases can either be from errors in judgment (cognitive) or feelings and intuition (emotional). I’ll discuss two of those biases below. The first is hindsight bias, which stems from selective perception and retention, clearly making this a cognitive bias. The second bias is loss aversion bias, where investors feel more pain from a loss than pleasure from a gain. The root cause is feelings, so this is an emotional bias. To some degree, everyone is affected by some form of investment bias. And unfortunately, these biases can make us take actions that do not align with our long-term goals. Fortunately, knowledge and self-awareness can help you get out of your way, so let’s discuss these potential roadblocks to your financial freedom.
Hindsight Bias: The "I Knew It All Along" Phenomenon
“It's tough to make predictions, especially about the future.” Yogi Berra.
Hindsight bias is a phenomenon where our knowledge of the outcomes alters our memory of our expectations at the time. This bias can lead us to believe that we could have predicted unpredictable events. In 2022, almost every asset class lost money, geopolitical conflicts were widespread, and monetary and fiscal policies were anti-growth. Therefore, it is understandable that it was difficult to anticipate the outcomes of 2023. In 2023, Russia's invasion of Ukraine strained global supply chains, and commodity prices skyrocketed. Inflation rose to 7.1%, a level not seen since the 1980s. Long-term U.S. Treasuries were down 29% on the year, and 10-year Treasury yields rose more than 2.3%, which was the largest annual increase on record. Despite the average analyst forecast for the year-end price of the S&P 500 for 2023 being just 4,009, according to a Bloomberg survey, almost no one correctly anticipated a stock market with double-digit returns. However, the S&P 500 ended up close to 4,750. Hindsight bias can make us forget the uncertainty that once clouded our decisions. To overcome this bias, the first step is to recognize whether or not we have a tendency to overestimate our clairvoyant abilities. Self-awareness is key. Ask yourself, have I occasionally demonstrated traits of hindsight bias? If you can’t remember, I have good news, and you can find out by taking the Hindsight Bias Questionnaire on our website👏
The Greatest Risk Is Often Not Taking Risk
Don't be afraid to lose, or you will never put yourself in a position to win. Each loss provides an opportunity to learn and better prepare yourself to avoid succumbing to similar outcomes down the road. Take the recently retired NFL coach, Bill Belichick, as an example—one of the winningest NFL coaches of all time, with eight Super Bowl rings during his career as a coach. But he’s also closing in on the record for most losses as a head coach. After the Patriots fell to the NY Giants in week 12, Belichick recorded his 161st career loss, putting him just four shy of tying the record of 165 held by Dan Reeves and Jeff Fisher. The losses shaped Belichick and created a savvy, confident, and resilient coach. Without the losses, he would not have achieved greatness. Lessons learned. Never trying is the only sure way to lose. And losses will only hinder your success, whatever your goals may be if you are afraid to acknowledge and learn from them. These great coaches make game-time decisions that are not unlike the investment decisions many of my clients make with their wealth. No coach likes to lose, but if that coach makes decisions stemming from the fear of loss, they find themselves playing to avoid a loss instead of trying to win. And losing is usually the inevitable result.
Loss aversion is a psychological phenomenon where the pain of losing is psychologically about twice as powerful as the pleasure of gaining. If you feel more comfortable investing in assets like CDs, bonds, or cash instead of stocks, it's essential to evaluate the reasons behind your preference. Have you assessed each asset class and determined that they are better suited for your financial goals? Or does your preference stem from the fear of loss? If your fear prevents you from an honest evaluation of whether a different asset mix is better for your goals, you may have a loss aversion bias. People experiencing loss aversion bias fear losing money so much that it prevents them from taking risks, even when inaction poses the greatest threat to their financial well-being.
Although nobody likes risk because it comes with the possibility of a loss, over time, the potential for a sustained loss becomes smaller and smaller. Those unwilling to take risks may find that the risk of failure in their financial plan only grows if they're unwilling to allocate their portfolio in a manner where there's a high degree of confidence that the returns inside that portfolio are greater than the rate of inflation. The risk of not taking risk highlights the importance of finding mitigation techniques if you have demonstrated traits of this bias.
Loss aversion is an emotional bias that stems from deep feelings rather than an error in reasoning. Consequently, it's more difficult to mitigate and overcome. For example, if I tell you that 2 + 2 = 5 and you tell me I made an error, I'll likely correct the mistake, and we can move forward. But what if I’m afraid of flying? Telling me the statistics of how safe a plane actually is won't make me feel any better (side note - I’m actually a little afraid of flying). Loss aversion works in a similar fashion. So, telling a client that they are better off in stocks and here are the numbers is not a compelling argument to expose their wealth to more risk. Instead, time and mitigation techniques like a goals-based portfolio can help clients overcome this hurdle. If the client becomes more comfortable with risk in the portfolio over time, the fear of loss will become smaller and smaller. If you would like us to provide you with a goals-based solution, please don’t hesitate to ask. You may find that this solution both helps you feel better about the risk you are taking while maintaining your focus on your long-term objectives. And like my fear of flying, the more I travel, the more comfortable I am on an airplane😎✈️.
Noble Wealth Pro Tip of the Month
To Achieve Financial Security, Try a Dash of Insecurity
We all face insecurities in various aspects of our lives, from relationships and careers to personal goals and finances. Interestingly, embracing a bit of insecurity can actually help you feel more secure. This may seem counterintuitive, but there is some logic behind it. A touch of insecurity can push you to take actions or adopt behaviors that can help you achieve your goals. For example, feeling a slight sense of insecurity in a relationship can prompt you to evaluate its strength and work towards becoming a better spouse or parent. Similarly, not assuming that you're the best in a sport or hobby can motivate you to train harder and achieve your objectives more effectively. When it comes to finances, a healthy level of concern can foster sound financial habits and help you achieve your financial aspirations.
The fear of becoming poor is a common trait among wealthy individuals. This fear, although small, often drives them to make choices that minimize the risk of financial decline. As long as this sense of insecurity is healthy and you have a clear understanding of your financial situation, it won't overwhelm you with anxiety. Instead, it will motivate you to take proactive steps to reduce the likelihood of financial setbacks.
Wealthy individuals who have successfully managed their finances have resisted the temptation for instant gratification, dealt with discomfort, and taken the time to reflect on and evaluate their financial position. They have set specific, measurable, attainable, relevant, and time-based financial goals, and have automated their savings to achieve small victories. By reinforcing positive habits, they have made their prudent wealth management strategies sustainable with less and less effort over time.
Avoid the Comparison Trap
Social media has a profound impact on how we perceive our financial situation. It has become a common practice to compare ourselves with others on these platforms, which can lead to dissatisfaction and risky financial behavior. Spending too much time on social media can result in a negative impact on our financial self-perception. It's essential to focus on our personal financial goals and be mindful of our social media usage to avoid falling into the comparison trap. Practicing gratitude and recognizing our own achievements can serve as powerful antidotes to the detrimental effects of comparison. Therefore, we must use social media mindfully and remember that our financial goals are unique to us, and our progress should be measured against our own standards and not against others.
Fun Facts of the Month
Severe Burden on Renters: A shocking 27% of renters are severely cost-burdened, dedicating over half their income to housing and utilities. This alarming trend was highlighted in a Harvard study, which also noted an unprecedented rise in homelessness, with over 256,000 people found in unsheltered locations in 2023 (Harvard University).
Shrinking Homes: As housing affordability worsens, builders are downsizing homes. The median square footage of new single-family homes plummeted, marking the most significant decline in a decade. From 2013 to 2023, the median size dropped 12%, reflecting the shifting dynamics in housing trends (ResiClub, Parcl Labs).
Market Swings: The Russell 2000® experienced a dramatic shift, showcasing the volatility in small-cap stocks. This index's performance oscillated from significant outperformance to underperformance against the S&P 100, a rarity only seen in moments of market extremity (Bespoke).
Rising Confidence: Fannie Mae's HPSI surged, reaching a near two-year high, driven by increased job security and the anticipation of lower mortgage rates. This optimism reflects a growing confidence in the housing market's future (Fannie Mae).
Union Membership Today: Union membership saw a slight increase in 2023, yet the long-term trend shows a dramatic decline since 1983. This subtle growth contrasts with the halving of union representation over the past four decades, illustrating the changing landscape of labor in America (Bureau of Labor Statistics).
Global Market Trends: The MSCI ETFs tracking the world's ten largest economies reveal a mixed bag of performance, with Japan, the US, and India leading the pack. This diversity in performance underscores the complex dynamics at play in global markets (Bespoke).
Small Business Boom: Small business formation surged in 2023, reaching record highs. This rebound from the previous year's decline signifies a robust entrepreneurial spirit amidst economic challenges (US Census Bureau).
Coaching Legends: Bill Belichick and Nick Saban, two titans of football, ended their illustrious careers, leaving behind a legacy of success. Their departures mark the end of an era, with both coaches having secured numerous championships for their teams (NFL.com, Wikipedia).
The Price of Happiness: A survey reveals that most Americans believe money can indeed buy happiness, with the "happy price tag" averaging $1.2 million. This perception varies significantly across generations, highlighting differing views on wealth and contentment (Empower).
Inverted Yield Curve: For the first time since records began, the yield curve remained inverted throughout 2023, signaling potential economic concerns. This phenomenon has historically been a rare occurrence, underscoring its significance in financial markets (Bespoke).
Financial Unity: Merging finances appears to strengthen marital bonds, according to research. Couples who combine their bank accounts tend to enjoy higher relationship quality, suggesting the power of shared financial goals (Journal of Consumer Research).
