“If investing is entertaining, if you’re having fun, you’re probably not making any money. Good investing is boring.” –George Soros (Trades, Portfolio)
Investing is a difficult game. You spend hours or even days researching a company, and then, if you decide to buy in, you may end up holding for years without any profit (this applies in particular to deep value investing). For many equity owners, this lack of action is boring and unpalatable. It takes a lot of restraint to sit back and watch a position do nothing for years. Many investors want quick profits and minimal losses, but this is not what investing is about.
Business is slow
Investing is long term because business is long term. Companies do not become successes overnight. Take Amazon (AMZN, Financial) for example. If you’d invested $10,000 in Amazon stock when it went public in 1997, you would have more than $5 million by now, according to the Wall Street Journal. But how likely is it you would have held on to the stock through all the ups and downs without getting bored or taking profits?
To benefit from Amazon’s success over the years, you would have had to stomach some fierce drawdowns. Amazon has seen a 10%-plus peak-to-trough decline in every calendar year since it floated; between December 1999 and October 2001, the shares dropped 95%!
The profits speak for themselves: To profit from Amazon you needed to have been bored.
Today markets are boring. Realized volatility has been falling for years and is currently near all-time lows (what this means for the outlook of markets is a topic for another day) and the current Standard & Poor's 500 rally has gone 10 months without a 3% selloff, making it the third longest since World War II. Historically, 3% to 5% selloffs in the S&P 500 have occurred on average every two to three months.
Boredom is dangerous
Boredom can be a dangerous disease for investors. In a recent note to investors, Logo’s Capital highlighted a principle eloquently presented by Christoper Mayer: "Boredom can explain a lot. It can explain all kinds of financial behavior. And there is definitely a 'boredom arbitrage' to take advantage of in the markets."
This concept of “boredom arbitrage” is an interesting one as it links with the “time arbitrage concept” touted by other value investors.
Today investors are looking for action. The market is slow, and this slowness inspires boredom trading. It’s all too easy for the thought that “this stock is going nowhere so I’m going to buy Amazon” to creep into your mind when the market is going nowhere. Alternatively, if a company comes out with a bad set of figures, a dull market environment makes it easy to justify jumping out and into the next hot investment.
The financial markets are still primarily composed of the results of people’s decision making and thus are influenced by boredom. People get bored and just want to make something happen. Thus, companies and industries fall out of favor. Often what is out of favor is priced as such and thus offers the best prospects for outsized returns over the long term, ergo “boredom arbitrage” or “time arbitrage” depending on how you look at the opportunity or how it presents itself.
Logo’s uses Monster Beverage (MNST, Financial) as a classic example of the “boredom arbitrage” trade:
“This company became a 100-bagger in 10 years and yet during that period there were over 10 occasions that the stock fell more than 25%. In three separate months, it lost more than 40% of its value. Yet if you focused on the business and not the stock price, putting $10,000 in, you would have ended up with $1 million at the end of 10 years.”
Just like Amazon, with Monster the long-term holder, would have won big, but are there any investors out there who were able to sit tight and embrace boredom through all the peaks and troughs?
Investors underperform
The most comprehensive data on “boredom arbitrage” comes from DALBAR's annual Quantitative Analysis of Investor Behavior report.
According to this market research firm, “in 2015, the 20-year annualized S&P return was 8.19% while the 20-year annualized return for the average equity mutual fund investor was only 4.67%, a gap of 3.52%.”
Why did average investors underperform by such a wide margin during this period?
“Analysis of the underperformance shows that investor behavior is the No. 1 cause,” or to put it another way, investor boredom has pushed them to trade in and out of mutual funds as they try to beat the market. Sadly, this hunt for performance has only cost investors money.
Disclosure: The author owns no share mentioned.
