Behavioral Finance Archives

Chasing Performance : Don’t Trip on International Stock Funds

Over the past five years, US stocks have trounced foreign stock performance. In case you are now considering a reduction in your foreign stock holdings, let’s take a moment to examine performance-chasing and the benefits of global diversification.

Sensible investors pursue diversification as a policy to reduce risk, not as a tactic to chase performance. By following a disciplined policy of maintaining a well-diversified set of portfolio exposures, regardless of market zigs and zags, investors establish conditions for long-run success. In fact, when taking market conditions into account, investors increase the odds of success by diversifying into asset classes after they suffer poor performance. In any case, foreign equities provide an important tool for reducing portfolio risk without sacrificing expected returns. – David Swensen, Unconventional Success: A Fundamental Approach to Personal Investment

How information is presented—or “framed,” in behavioral finance terminology —influences our perceptions. Whether you hear a market summary on the radio as you commute home, watch it on the nightly news, or read it on screen or in the paper, the financial media often frames the performance in disorienting ways. Jim Parker, Vice President, DFA Australia Limited, proposes three reorientation’s in his essay,“Future Testing.”

 

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