Blog & News
E+R=O, your reactions determine your success
Posted By:
Rob Siegmann MBA
Wednesday, August 8, 2018
E+R=O, your
reactions determine your success!!
As an operations professional, I enjoy learning new ways to
get work done more efficiently, or improve my perspective on work/life balance. As
Jack Canfield defines in his book, The Success Principles: How to Get from
Where You Are to Where You Want to Be (New York: Harper Collins Publishers,
2004), your success can be improved with a simple formula, Event + Response
= Outcome, or E+ R = O.
My team sees this formula applied every day when our clients
don’t respond to the daily events of the stock markets. In fact, their alignment with our firms’ investment
philosophy increases the chances of having a positive investment outcome and
ultimately meeting their most important lifetime goals and objectives. Another contributor to client’s success comes
from the low cost investment partners we select and relentlessly monitor. One of these partners is Dimensional Fund
Advisors (“DFA”), now the third largest mutual fund business in the country. David Booth, Founder of DFA, states “The important thing about an investment
philosophy is that you have one you can stick with.” We could not agree
more with him, especially during good times (i.e. tech bubble) and bad times
(i.e. high yield debt crisis) to avoid losing the long term perspective that
comes from an enduring investment philosophy.
AN ENDURING
INVESTMENT PHILOSOPHY
Investing is a long-term endeavor. Indeed, people will spend
decades pursuing their financial goals. But being an investor can be
complicated, challenging, frustrating, and sometimes frightening. This is
exactly why, as David Booth says, it is important to have an investment
philosophy you can stick with, one that can help you stay the course.
This simple idea highlights an important question: How can
investors, maintain discipline through bull markets, bear markets, political
strife, economic instability, or whatever crisis du jour threatens progress
towards their investment goals?
Over their lifetimes, investors face many decisions,
prompted by events that are both within and outside their control. Without an
enduring philosophy to inform their choices, they can potentially suffer
unnecessary anxiety, leading to poor decisions and outcomes that are damaging
to their long-term financial well-being.
When they don’t get the results they want, many investors
blame things outside their control. They might point the finger at the
government, central banks, markets, or the economy. Unfortunately, the majority
will not do the things that might be more beneficial—evaluating and reflecting
on their own responses to events and taking responsibility for their decisions.
e+r=o
Some people suggest that among the characteristics that
separate highly successful people from the rest of us is a focus on influencing
outcomes by controlling one’s reactions to events, rather than the events
themselves. This relationship can be described in the following formula:
e+r=o (Event +
Response = Outcome)
Simply put, this means an outcome—either positive or
negative—is the result of how you respond to an event, not just the result of
the event itself. Of course, events are important and influence outcomes, but
not exclusively. If this were the case, everyone would have the same outcome
regardless of their response.
Let’s think about this concept in a hypothetical investment
context. Say a major political surprise, such as Brexit, causes a market to
fall (event). In a panicked response, potentially fueled by gloomy media
speculation of the resulting uncertainty, an investor sells some or all of his
or her investment (response). Lacking a long-term perspective and reacting to
the short-term news, our investor misses out on the subsequent market recovery
and suffers anxiety about when, or if, to get back in, leading to suboptimal
investment returns (outcome).
To see the same hypothetical example from a different
perspective, a surprise event causes markets to fall suddenly (e). Based on his
or her understanding of the long-term nature of returns and the short-term
nature of volatility spikes around news events, an investor is able to control
his or her emotions (r) and maintain investment discipline, leading to a higher
chance of a successful long-term outcome (o).
THE FOUNDATION OF AN
ENDURING PHILOSOPHY
An enduring investment philosophy is built on solid
principles backed by decades of empirical academic evidence. Examples of such
principles might be: trusting that prices are set to provide a fair expected
return; recognizing the difference between investing and speculating; relying
on the power of diversification to manage risk and increase the reliability of
outcomes; and benchmarking your progress against your own realistic long-term
investment goals.
Combined, these principles might help us react better to
market events, even when those events are globally significant or when, as some
might suggest, a paradigm shift has occurred, leading to claims that “it’s
different this time.” Adhering to these principles can also help investors
resist the siren calls of new investment fads or worse, outright scams.
THE GUIDING HAND OF A
TRUSTED ADVISOR
Without education and training—sometimes gained from bitter
experience—it is hard for non-investment professionals to develop a cogent
investment philosophy. And even the most self-aware find it hard to manage
their own responses to events. This is why a financial advisor can be so
valuable—by providing the foundation of an investment philosophy and acting as
an experienced counselor when responding to events.
Investing will always be both alluring and scary at times,
but a view of how to approach investing combined with the guidance of a
professional advisor can help people stay the course through challenging times.
Advisors can provide an objective view and help investors separate emotions
from investment decisions. Moreover, great advisors can educate, communicate,
set realistic financial goals, and help their clients deal with their responses
even to the most extreme market events.
In the spirit of the e+r=o formula, good advice, driven by a
sound philosophy, can help increase the probability of having a successful
financial outcome.
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