Your Brain’s Power to Stay the Course

Studies of the human brain have shown that we actually have two brains. There’s the neocortex, where our higher thought processes take place. Below the neocortex is a primitive brain left over from our distant ancestors. This primitive brain doesn’t think. It reacts. All it cares about is survival. So when danger looms, the primitive brain shuts down the neocortex and enters fight-or-flight mode. This was a good survival strategy in the days when you had to run from saber toothed tigers. It’s still useful if you’re trying to avoid a car accident and have only seconds to react.

However, this primitive brain is not good at dealing with a plummeting stock market. Many people simply cannot handle stock market volatility. As their anxiety mounts, their primitive brain kicks in and tells them to run. Yet if you’re going to invest in the stock market, you have to expect a bumpy ride.

How can you overcome your prehistoric conditioning? Keep this one simple fact in mind. People who wait out market volatility have, over time, tended to make more money than people who cut and run.

Here’s a hypothetical example. Let’s start at the market peak of October 2007 with a 60/40 index strategy portfolio of $100,000. Lehman Brothers collapsed in September 2008—a defining moment in the great financial crisis of that year. At that point, investors were faced with three choices:

Option 1: Stay the course and make no changes at all. At the end of 2010, this portfolio would have been valued at $104,502.

Option 2: Pull out of the 60/40 portfolio and go straight to a cash portfolio. By the end of 2010, this portfolio would have been whittled down to $85,469.

Option 3: Pull out of the 60/40 portfolio and put your trust in Treasuries. At the end of 2010, this portfolio would have decreased to $94,451.

(Source: Russell Investments)
The lesson here is that a balanced portfolio will usually recover a greater percentage of its lost value, and at a faster rate, than an investment strategy based on all cash or all Treasuries.

When the market goes haywire, get your neocortex back in the game. I am always happy to talk about your investing hopes and fears. We can look at past market declines and see how the subsequent rebound played out. We can’t predict the future, but we can work together to imagine what might happen and what we can do about it.