June Provides an Example of Differing Investor Behavior

June Provides an Example of Differing Investor Behavior

June Provides an Example of Differing Investor Behavior

June was a difficult month for fixed income (bond) investments, as interest rates increased in the face of the Federal Reserve's announcement that its program of bond buying known as Quantitative Easing would eventually taper down. Investors holding longer-maturity bonds were especially hard hit. For example, while the Vanguard Long-Term Bond Index Fund (VBLTX) lost 4.54%, the Vanguard Short-Term Bond Index Fund (VBISX) lost only 0.57%, according to vanguard.com. The response of Vanguard's shareholders to this drop is detailed in this article from InvestmentNews. They pulled out $9.7 billion from bond funds, giving Vanguard its first month of net outflows since December 1994.

After interest rates have gone up, fixed income should become more attractive to investors. The investors who fled from bond funds were likely engaged in a visceral reaction to a price drop that they extrapolated into the future. Extrapolation of recent price movements is one of the common pitfalls of individual investor behavior, leading to subpar results.

A fair question to ask is how did professional (i.e., institutional) investors and retail investors acting under the guidance of a fiduciary (i.e., a registered investment advisor) react to the drop in bond prices? Fortunately, we have a way to measure this, as Dimensional Fund Advisors (DFA) deals primarily with these two types of clients. Using Morningstar data for their fifteen bond mutual funds1, we calculated that DFA had net inflows of about $136 million to their bond funds. We are not aware of any other fund family that experienced net inflows to their bond funds. To us, this speaks volumes about the difference in behavior between advised and unadvised investors. Considering that Vanguard also serves a large number of advised investors who probably behaved similarly to DFA's advised investors and had net inflows to bond funds, this would imply that Vanguard's unadvised investors had even more outflows than the $9.7 billion. Please bear in mind that when we are looking at Vanguard, we are probably dealing with the best of all unadvised investors. The rest of them tend to rely on failed techniques like stock picking and manager picking. So if Vanguard's unadvised investors behaved badly in the face of a bond price drop, we have to assume that behavior was even worse beyond Vanguard. Evidence of this is seen in PIMCO's total net withdrawals of $14.5 billion, of which $9.6 billion was attributed to the PIMCO Total Return Fund. The chart below summarizes the June cash flows:

If you are currently not working with a passively-oriented registered investment advisor, please ask yourself if you have truly behaved in a manner that afforded you the highest probability of achieving the best possible return for the amount of risk you have taken. If the answer to that question is negative, then you may want to consider the benefits of working with a true investment fiduciary who is paid only by you. If you would like to discuss this in greater detail, please call us at 888-643-3133.

 


1. The tickers for the 15 DFA bond funds evaluated are: DFGBX, DIPSX, DFIGX DFTEX, DFAPX, DFIHX, DFSHX, DFEQX, DFFGX, DFGFX, DWFIX, DCIBX, DFCMX, DFTIX, and DFSMX.