In the classic movie Office Space, employees at a technology company have to explain to two outside consultants what it is that they actually do every day. A few stammer for an explanation, trying to give the appearance that they are very busy and important.
Then the hero of the movie is interviewed. Enjoying a state of total relaxation because of a botched hypnotherapy session (it's at this point that I must say that if you haven't seen the movie yet, you really should), he pleasantly explains to the consultants that he really doesn't do anything at all.
It's a perfect illustration of our bias for activity, for this feeling that we have to be doing something. The problem is that doing something isn't always best -- and this is particularly true both for soccer goalies and for investors.
Allow me to explain.
In a study of top professional-league goalies facing penalty kicks (which, as you might imagine, they have every incentive to stop), researchers found that the "norm" behavior is to jump to one side of the goal. They only stand still in the middle about 6% of the time.
This doesn't really make sense. If these athletes were choosing what to do based on the direction of most penalty kicks and their probability of stopping them, they'd stay in the center of the goal about as often as kicks aim for the middle -- or 29% of the time. In other words, despite being highly motivated to stop as many kicks as possible, goalies have an overwhelming bias for acting -- even though they shouldn't be acting nearly so much.
As an investor, you could be making the same mistake.
For a variety of reasons, even professional investors have a persistent bias for activity. It could be that, like soccer, doing something is the norm, or simply more highly regarded than doing nothing. After all, the last time you had a spirited conversation with another investor, was it about his or her passive indexed investment strategy?
And why would you want to be just standing there when the ball comes whizzing past you?
But sometimes, just standing there is a good thing
If you're not an index investor, you have be extra careful about knowing when to act and when to not act.
Over-trading hurts you because it comes with transaction fees, which have an amazingly effective way of lowering performance. One of the seminal studies on the subject found that, after fees, frequent traders performed about 7% worse, on average, than infrequent ones. Ouch.
Emotional investing, or making decisions based on fear or greed, as Warren Buffet might put it, is another way in which activity can be your undoing. If you find yourself feeling trigger-happy to sell into a down market, or itching to buy the latest hot stock everyone is talking about, you probably have a good idea of what this feels like.
What are you supposed to do, then, when everyone else is in a panic?
You might do well to imitate "ostrich" investors, those who stick their heads in the sand when the bad news starts coming in. Remarkably, they typically do better than the investors who try to tackle down markets head-on. Even though ostriches' reasons for doing nothing aren't exactly high-minded, the end result is that they don't lock in their losses, and thus have the opportunity to participate in the upswing.
In the end, just like goalies lose out because they jump too much (after all, 80% of the study's penalty kicks end up as goals), you also might be losing from acting too fast. Next time you think you just have to do something, stop and consider that this might be one of the times to do less.
