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The Human Element in the Markets

Looking Beyond the Economic Numbers
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Schwab’s chief investment strategist Liz Ann Sonders discusses some of the human elements that drive market movements.

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Rick Karr:
Data and statistics can tell you a lot about what’s happening on the market. But they can’t tell you everything—because markets are made up of people. Schwab’s chief investment strategist Liz Ann Sonders says sometimes getting a good read on people will tell her something the numbers can’t. On this installment of the Insights & Ideas podcast brought to you by Charles Schwa,b she’s talking about human factors and how they play out on the market.

I’m Rick Karr. Timing is everything when a bull market’s about to peak and turn bearish, or when a bear market hits bottom and turns bullish. Liz Ann Sonders says a bell didn’t ring to signal the height of the tech bubble in 2000, or when the market hit its low in 2008. She says she saw that the market was turning those corners when she spoke to groups of investors.

Liz Ann Sonders:
If you are in a roomful of individual investors, and you ask them, “Okay, everybody who’s bearish, raise your hand.” And no hand goes up. “Everybody who’s bullish, raise your hand.” And every hand goes up. What you can infer from that is that every hand up probably means that those investors already have money in the market. They’re not sitting on a lot of cash. They’re enthusiastic. So they’re probably fully invested. Ergo, where is the fuel for the additional advance?

At that point, the expectation bar has been set fairly high. And you get to the point where there’s only one way to go from that sort of euphoria point, and that’s down. Of course, if the opposite were true and everybody raised their hand and said they were bearish like in early 2009, they were probably already out of the market. They were not sitting fully invested and they had a lot of cash, which is the future fuel for the market.

Rick Karr:
Right. And so, let me see if I’m getting this right. If they all raise their hands and say, “Bullish,” the fact that they don’t have any cash means there’s no pressure to send share prices up.

Liz Ann Sonders:
Correct. There are actual measures of cash levels too. You can look at various sources for data that shows what households’ exposure is to the various three key asset classes, equities, fixed income and cash. You can look inside mutual funds to see how much cash they hold.

So there are lots of ways to measure the enthusiasm or lack thereof in the market by investors. And then of course, there’s lots of categories of investors too. There’s individual investors. There’s mutual funds themselves. There’s pension funds. There’s hedge funds. And they tend to operate in different ways. So you also have to understand how to use this data. It’s not as simple as, “Just in the aggregate, if everybody’s bullish, the market’s going to go down. And if everybody’s bearish, the market’s going to go up.” You have—there’s nuances to investor behavior.

Rick Karr:
I have a slightly self-interested question here which is as a journalist, I wonder if I and my colleagues in some ways—if you ever kind of scream at your television set or at the radio or at the newspaper because—

Liz Ann Sonders:
I often do.

Rick Karr:
So what do we do wrong? What are the things that journalists do that investors should watch out to avoid?

Liz Ann Sonders:
I think it goes back to what is unfortunately the sad fact about the way we consume media, and that is that bad news sells. So I think there’s a tendency to really focus on the big negative numbers and in the case of the economy as it relates to the stock market—that often is a little bit backwards.

And I think that also it’s—we’re in a world of sound-bite television—and in the case of the financial news programs, when I go on, unless I’m guest hosting, or I’m on a unique program that allows me or other guests to answer in full sentences and actually have a conversation, you don’t get to that point. It’s very headline-driven, it’s very sound-bite driven. And this type of conversation, which although I think is valuable to the investing public, is not going to win a lot of points.

The long-term discussion about leading and lagging indicators, and the need to be diversified and the way behavior affects investors. I don’t know, I suppose it’s considered somewhat boring stuff even though it’s essential to grasp if you’re going to be a successful investor.

Rick Karr:
And this is something that echoes something that I’ve heard from several of your colleagues, which is that one of the biggest mistakes an investor could make is to think that investing is simple, or that there is an easy way to do it.

Liz Ann Sonders:
It’s not. It never has been. It never will be. It is far from simple. But the one overriding essential is discipline. And I think that’s where many investors fall short. In a—call it a steady-type market environment, where they might be sitting down with an advisor or constructing a plan on their own—they believe they’re setting it up the appropriate way. And they believe in the notion of diversification and risk tolerance and need for income and asset allocation and all those tried-and-true things that should go into the establishment of a long-term investing plan.

The problem is when markets are not calm and they go through what we know are fairly normal gyrations, the plan gets thrown out the window, the notion of diversification suddenly doesn’t matter, and you know panic and fear kick in, and/or greed. And that’s why the sentiment side of investing and behavioral finance is a subject in and of itself, because that’s really what ultimately happens.

And I think the media tends to feed on that in both directions.

Rick Karr:
You told me a story about one of your mentors early in your career had a kind of hilarious indicator of investor sentiment?

Liz Ann Sonders:
Yes, Marty’s. Yes. So I started in the business in 1986 working for the late, great Marty Zweig who was uber-famous in the 1980s and he was a classic market timer, to use the generic description of what he did.

But our firm was more formally known as a tactical asset allocator. So based on model inputs we would move money around, basically among the three broad asset classes: stocks, bonds and cash. And we’d be more heavily invested in stocks when the environment looked healthy and we’d be less invested in stocks when it did not. And it was Marty from whom I learned this whole notion of three buckets of indicators, sort of monetary/economic, fundamental, and then investor sentiment.

And among all of those hundreds of indicators that—this was pre-Internet, so Marty used to keep track of with pencil on that green—I don’t even know what that graph paper is called, but that green accountant’s kind of paper. And he would often get questions from clients or reporters, “If you had to throw out every one of those indicators save for one, what would it be?”—in terms of being able to divine what the market is going to do. And he would very quickly answer, “Time and Newsweek covers.”

And by that he meant, and again, this was before the era of the Internet and, as you mentioned, just the dump of information—the information overload that we get on a daily basis—was Time and Newsweek covers. Because those were the two Main Street publications. They were weekly. And if in the same week, both Time and Newsweek had bulls on their cover, that was sort of his "look out below” signal. And then vice versa, if both Time and Newsweek had bears on their cover, it probably meant that the bear market was over and the market was going to pick up from there.

And it had a remarkably successful track record looking in the past. And that is, again, that’s sort of a 30-year-old example or proxy for sentiment that’s measured in so many different ways, because the environment is so much more complicated and we have more access to information that we didn’t back then. But that’s the concept.

Rick Karr:
And the upshot that I’m taking from this is that there are leading indicators, lagging indicators and journalists.

Liz Ann Sonders:
And journalists who confuse the lot of them.

Rick Karr:
My conversation with Schwab’s chief investment strategist Liz Ann Sonders covered a lot more ground. You can hear us talk in a companion to this podcast about how she uses hard numbers to get a sense of where the markets and the economy are going. She’s on Twitter @lizannsonders, L-I-Z-A-N-N-S-O-N-D-E-R-S. The Insights & Ideas podcast is brought to you by Charles Schwab. You can find us on iTunes or at

I’m Rick Karr, thanks for listening.

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