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Aug. 12, 2011, 2:04 p.m. EDT
By Chuck Jaffe, MarketWatch
BOSTON (MarketWatch) "” Stock market reports this week needed to come with a warning, something like "Don't try this at home" or "Turn off the sound if you don't want to spoil the ending."
Lacking that cautionary note, investors were adrift in a sea of conflicting data and emotions. They didn't need to be.
Clearly the investing public has passed the point of denial "” there is no way to minimize the governmental, societal and economic problems that have created the latest worldwide financial crisis "” but is not yet at the point of capitulation, where they throw in the towel and abandon the financial planning ship they've been sailing on.
S&P 500 by the minute over past 10 days.
While the history of market cycles suggests that every crisis reaches a point of capitulation "” a moment when it seems like everyone has given up "” shortly before a rebound starts, plenty of people are looking at the headlines and wondering if they should give up on their investment plans and try something that feels more comfortable.
Most experts in behavioral psychology and long-term investing say that giving up entrenched strategies for what feels good now is the worst possible move, no matter how appealing that sounds. It's closing the barn door after the horse is gone, a too-little, too-late move based on the scary thing that just happened instead of any forecast of the long-term future.
"For a lot of people, if they just kept their heads in the sand and didn't look at any financial news except for January 1, they would be a lot happier; that would have been true in the middle of the financial crisis of 2008 too," said Richard Peterson of MarketPsych Data, a Santa Monica, Calif.-based firm that studies investor behavior.
"The number of times you check in the news or on the Internet, or listen to radio reports, the more times you see bad news," he added. "You're not getting any real, clear information; you're just getting enough information so that "” when you hear it over and over again "” you get scared.
The unfortunate truth about this recent market downturn is that so many investors are surprised. "If 2008 taught people anything, it's that there are a lot of risks that you can't predict," Peterson said. "So you plan for it and live through it, instead of ripping your plans apart."
The desire to run away from financial pain is obvious. Many pundits say that investors' fear is high because the crisis of 2008 and the bursting of the Internet bubble several years before are still fresh in mind. The real truth probably lies much deeper in the psyche of investors.
When the Internet bubble was at its peak, an AARP study looked at where baby boomers believed they would get their financial support in retirement. The average investor looked to four sources of support, each roughly equal in their planning: They would get 25% of their support from stocks, bonds and other investments, and another quarter from entitlements like Social Security and Medicare. Their home "” downsizing and having proceeds to help support them "” would account for the third leg of their financial chair, with family providing any remaining assistance they might need.
That kind of thinking allowed investors to take wild flyers on the market, because even if it turned out poorly "” as it did when the bubble burst "” they believed they still had three other legs to stand on.
Now fast forward to the current economic situation. The stock market is in a tizzy, housing is in the dumps, the government has a debt problem so big that cutting entitlements now appears inevitable, and high unemployment casts doubt that a parent's investment in a child's college education will provide a safety net that was supposed to come with helping the kids through school.
"People always say "?This time it's different,' but what seems to feel different this time is the economic underfooting that is so important to people making financial decisions," said Donald MacGregor of MacGregor-Bates Inc., a Eugene, Ore.-based firm that does research and consulting in judgment and decision-making. "Right now, they feel like everything is on the move, like the whole world is shaking under them, when before it more likely felt like one problem to ride out at a time."
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