Chasing Performance Is a Fool's Game

"The loser now will be later to win, for the times they are a changin'."

-Bob Dylan

NEW YORK ( TheStreet) --At around 1,300, the S&P 500 was recently trading around 8% below the highs it made last spring, although it's still up by more than 3% for 2012. How does the performance of your stock portfolio compare?

Did your manager hold shares of J.P. Morgan Chase ( JPM) when the recent news of its huge trading loss broke and its stock tanked? Did your manager fail to buy Apple ( AAPL) before it enjoyed spectacular gains?

Should you care? My answer is no, if you made good decisions about how to invest your money in the first place.

For those who check their account constantly and fret when they find its performance lags major market indices, my advice is to take a deep breath and relax. Be patient. If your portfolio is being managed by a trusted professional that has articulated an intelligent strategy to you and appears to be following it, you should let their strategy play itself out for a while before second-guessing yourself out of it.

Too many people are under the impression their investments should always be showing superior performance to market averages. Otherwise, they think, what is the point of paying a so-called expert to manage my money?

The truth, however, is that winning investment strategies actually require periods of under-performance -- sometimes extended periods. For many investors, their ability to stick to their decisions and endure these moments of doubt and unease is what ultimately decides their success or failure as an investor.

Don't believe me? Let's examine some facts:
  • It's widely known that most active fund managers -- those who are picking stocks -- under-perform the market averages over time. Studies have shown that only 30% of actively managed stock funds manage to outperform the S&P 500 each decade.
  • In the top performing quartile of active managers in the first decade of the 21st century, nearly everyone had actually under-performed the market substantially for an extended period of time, according to David Advisors, an independent investment firm.
  • Davis found that 96% the top quartile had spent at least one three-year period during the decade in the bottom-half of performance rankings, 79% had spent at least three years in the bottom quartile and 47% had spent at least three years in the bottom 10%.
  • Several recent studies showed that professional asset allocators -- foundations, endowments and pension plans that have their choice of the top investment managers available -- do a terrible job of moving funds from one manager to another. When a manager suffers a losing streak, institutions pull their funds and reinvest them with someone who recently had a winning streak.
  • Unfortunately for these institutions, the loser who just lost their business typically then becomes the winner, while the recipient of the reallocated funds suddenly gets clobbered.
  • The average investor fares even worse in chasing performance. Mutual fund investors over the last two decades saw total returns that were only two-thirds the amount enjoyed by the S&P 500, according to a 2010 study conducted by Dalbar, a financial services market research firm.
  • This dismal performance largely stemmed from the fact that most investors sell their holdings when the market falls and they get scared, and then they buy back into the market when it's roaring and stocks are expensive. As I've written before numerous times in this space, this is exactly the opposite of what investors should be doing, but it's human nature.

    As you can see, chasing performance as an investor is a failed strategy. That's why it's important for investors to make well-informed, intelligent decisions in the first place on how they invest their money, whether they're choosing a professional to do it for them or they're trying to do it themselves.

    If that initial decision is made poorly, then a change is probably wise. If, however, the initial decision was a good one, then it's absolutely crucial that investors refrain from being spooked by a slump.

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