A reason the rich get richer

By Brett Arends

While ordinary investors tend to buy when the market is already bullish and sell when the market is down, the ultra-rich don’t.

Legend has it that Ernest Hemingway and F. Scott Fitzgerald disagreed about who was rich.

Fitzgerald, who had stars in his eyes, reportedly said, “The rich are different from the rest of us.

“Yes,” replied Hemingway, who did not. “They have more money.”

This exchange may not have taken place, at least not in person. The story can simply be based on things the two said and wrote separately.

But in any case: who was right?

Well, there’s new research that says: Maybe a bit of both.

When it comes to their investment portfolios, retirement plans, and estates, the wealthy can truly be different from the rest of us. And I don’t just mean they have more money.

Five economists from Harvard, Princeton and the University of Chicago analyzed detailed monthly portfolio data from Addepar, a wealth management platform used by investment advisers. This gave them information on up to 139,000 household wallets totaling up to $1.8 trillion in assets. In other words, a decent sized sample.

They looked at what these investors did, by month, from January 2016 to August 2021. Although this period was less than six years in total, it included a lot of excitement, including unrest around the presidential election. of 2016, the sharp market drop of late 2018, the COVID crash of March 2020, and two big booms.

Most importantly, economists have been able to group portfolios by size. The sample included nearly 1,000 “very wealthy” households with more than $100 million in assets each.

And they found something very interesting — and important.

While mainstream investors tend to buy when the market is already bullish and sell when the market is falling, those the researchers dubbed UHNWs don’t.

“We estimate how the flow into liquid risky assets responds to aggregate stock market returns across the wealth distribution,” the researchers wrote. “Quite strikingly, we find that sensitivity declines sharply in wealth. In fact, flows from households with assets above $100 million are essentially insensitive to stock market returns.”

In other words, “while less wealthy households act pro-cyclically, UHNW households buy stocks during a downturn.” (Pro-cyclical means buying after the market is up and selling when it is down.)

Indeed, UHNW households are so counter-cyclical that they help stabilize markets during downturns. They are the ones who buy when others sell.

This, inevitably, brings us back to the old, old paradox: the rich get richer.

Meanwhile, we already know that ordinary mom and pop investors enter and exit the market at the wrong time. They sell after the market crashes and buy when it has already recovered.

Why is this important?

That’s something to keep in mind if you’re considering selling your 401(k) stock funds now that the market has already fallen by a fifth.

It’s also something to keep in mind the next time the market is booming and you’re tempted to dive in headfirst.

The wealthy, it seems, tend to decide in advance what their balance between “safe” and “risky” assets is, and they try to keep it the same all the time, rebalancing in a sense when things are booming and the other way when crashing.

This also raises an interesting question in today’s market. Some market commentators have said we won’t hit market lows until private investors bail out. They cite, for example, private client data from BofA Securities.

Maybe they are right. But how many are the rich and how many are the others?

For example, check out the latest data from the Investment Company Institute, the mutual fund industry’s trade body. It is a very good indicator of the behavior of individual investors, at least everyone with a 401(k), IRA or something similar.

According to ICI, individual investors have been bailing out the stock market throughout 2020 (when, of course, they should have been buying). Then they bought for most of 2021 (when, of course, they should have sold, especially towards the end).

This year? They have been out on bail since April. Net sales were strong in the third quarter.

None of this, of course, proves that the market has bottomed or is near a bottom or anything like that. Any market veteran will tell you that a market bottom can only be seen in the rearview mirror – and usually a long time ago.

And the rich don’t have a magic crystal ball. John D. Rockefeller, at the time the richest man in the world, is famous for buying the market after the initial Wall Street crash of 1929. “There is nothing in the business situation that justifies the destruction values ​​that took place on the stock exchanges last week,” he said publicly. “My son and I have been buying healthy common stocks for a few days.

It ended up working, of course. But he was, alas, about three years ahead. The market would fall another 80% before hitting bottom. (To be fair, he couldn’t have foreseen that the Federal Reserve, the US Treasury and the US Congress would respond to the crash with foolish policies that led to the worst depression in history.)

Still, the next time you’re tempted to panic about the market, you might want to ask yourself, “What would a really, really rich person do?”

-Brett Arends


(END) Dow Jones Newswire

11-10-22 1255ET

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