Self-control important in financial markets


By Charles Tumlin

It turns out that one of the best predictors of future success is the ability to manage “hot” emotional states and to learn self-control. The past two months in the equity markets have given just that opportunity once again.

Stanford psychologist Walter Mischel concocted an experiment involving 4-year-olds and marshmallows to test self-control back in the 1960s, and only understood its significance much later.

As Jonah Lehrer writes in The New Yorker: “For decades, psychologists have focused on raw intelligence as the most important variable when it comes to predicting success in life. Mischel argues that intelligence is largely at the mercy of self-control: even the smartest kids still need to do their homework.”

This is very true in financial markets. Temperament trumps brains when it comes to making money over the long run. You can have a great plan, but if you do not have the discipline to execute it, the plan is useless.

News flow in financial markets — much of it alarming, since scary new always gets better ratings — gives investors a multitude of opportunities to behave badly. The best strategy? Distract yourself.

At the time, psychologists assumed that children’s ability to wait depended on how badly they wanted the marshmallow. But it soon became obvious that every child craved the extra treat. What, then, determined self-control? Mischel’s conclusion, based on hundreds of hours of observation, was that the crucial skill was the “strategic allocation of attention.” Instead of getting obsessed with the marshmallow — the “hot stimulus” — the patient children distracted themselves by covering their eyes, pretending to play hide-and-seek underneath the desk, or singing songs from “Sesame Street.” Their desire wasn’t defeated, it was merely forgotten. “If you’re thinking about the marshmallow and how delicious it is, then you’re going to eat it,” Mischel says. “The key is to avoid thinking about it in the first place.”

According to Mischel, this view of will power also helps explain why the marshmallow task is such a powerfully predictive test. “If you can deal with hot emotions, then you can study for the S.A.T. instead of watching television,” Mischel says. “And you can save more money for retirement. It’s not just about marshmallows.”

As Mr. Mischel points out, it’s not just about marshmallows. When clients ask me what to do in volatile markets, I only half-jokingly suggest that they read the sports pages. Focusing on the business news is just going to make you more likely to react. The more impulsive you are, the more likely you are to make a poor decision.

Self-control is very important when using return factors, none of which offer smooth sailing. Whether you are implementing relative strength or deep value or whatever, the market is going to gyrate and test you — basically do everything possible to get you to abandon your plan. A systematic, rules-based approach can be very helpful in this regard. If you have chosen a successful long-term strategy, more than anything else, your results are going to be dictated by how well you can follow it over the long run.

This article was written by Dorsey, Wright and Associates, Inc., and provided to you by Wells Fargo Advisors and Charles Tumlin, Financial Advisor in Beaufort, SC, 211 Scott Street, (843) 524-1114.  You cannot directly invest in an index. Wells Fargo Advisors did not assist in the preparation of this article, and its accuracy and completeness are not guaranteed. Investments in securities and insurance products are: NOT FDIC-INSURED/NOT BANK-GUARANTEED/MAY LOSE VALUE. Wells Fargo Advisors, LLC, Member SIPC, is a registered broker-dealer and a separate non-bank affiliate of Wells Fargo & Company.

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