Surviving in the Ring with Mr. Market

In investing, as in boxing, there are lots of theories on how to avoid going down for the count.

In practice, however, surviving a pummeling boils down to just two things:

1. Knowing when to do nothing

2. Knowing when to take action

Unfortunately, when you’re taking body blows, you can’t be counted on to make the right choice.

One particular summer provided many teachable moments from both boxing and investing:

I did something I never thought in a million years I’d ever do — go to the boxing equivalent of a supper club.

I mean, why listen to torch songs when you can see blood fly while you eat instead?

My boxing teacher, The Hawaiian Mongoose, was defending her New York State title at the thoroughly misnamed Cordon Bleu Banquet Hall in Woodhaven, Queens.

Of course, I had to go and cheer her on.

I was curious, never having seen a boxing match, let alone a full lineup lasting from cocktails through dessert.

And what a scene it was! Characters everywhere decked out in full costume: supersized people, all wearing bling, only a handful of whom were security (clearly, not all the action was expected to take place in the ring); an overdressed announcer in a Zoot suit with a pocket square; underdressed babes in high heels and navel rings announcing each round; and even a ringside doc wearing surgical gloves and a stethoscope.

As I watched bout after bout (three-minute rounds for men, two for women), it was hard to decide which was worse: watching someone “Turtle” (chin down and fists up taking punch after punch) or watching someone come out swinging, only to leave themselves open to a crunching, well-placed blow.

Either way looked like it hurt. A lot.

What I didn’t realize at the time was that appearing to do nothing can be a strategy. If you can take punches in a well-defended position while your opponent wears herself out and makes mistakes, you can pick the perfect moment to land one on the kisser.

Endurance ensures victory.

The same can be true for investing.

When everything you own behaves like garbage, the frustration mounts to the point that swinging wildly (i.e., ditching and replacing everything in the portfolio) seems like a cunning plan.

Sometimes, though, taking the hits and doing nothing is what’s called for. And while it can be easy to make a clear decision when it’s not your head on the line, when you’re in the ring with Mr. Market, it becomes a lot harder to think straight.

In 1999, for example, our small-cap portfolio lagged our benchmark, the Russell 2000, by over 17% basis points. In 2000, we beat the Index by over 22% basis points. Did the portfolio change? Not to speak of.

What changed was market sentiment; doing nothing was the right call.

Other times you think you’re standing by your convictions in the face of a psycho market when, in fact, you’re just being stubborn. As Robert Sutton puts it, what one wants to have are “strong opinions, weakly held.”

A willingness, in other words, to change your mind when presented with contrary evidence.

Case in point: In August 2011, we went through a fifteen-day streak of relative underperformance in our SMid-cap portfolio. Now mind you, lagging the Index is an occupational hazard, but one’s performance usually bobs and weaves on the way to the doghouse. Such a relentless daily hazing is unusual. We had lots of sixes and sevens, a few tens and twelves, but fifteen days was our record. (The odds of that are 32,768 to 1, by the way. Not that I’m a data geek or anything.)

What did we do?

We decided to take a few swings at Mr. Market and repositioned part of the portfolio. Why? The world had changed. And thus, so had the risk/reward ratio of our holdings. We shortened the risk/economic sensitivity leash and reduced the number of stocks whose performance would be overwhelmingly driven by macro factors. (Mostly financials — no sector is more likely to catch the flu when the world’s economy sneezes. In a systemic seize-up, the downside in the sector gets almost impossible to predict.)

Many lessons learned, but perhaps most important is this: In investing, as in boxing, you can’t win if you’re not still standing at the end of the match; endurance is what matters most in any long-haul battle.

But it isn’t about brute force — nobody has the luxury of infinite energy.

The true champion knows when to block, when to punch, and how to deploy her resources deftly.

Photo credit: World Telegram staff photographer, Public domain, via Wikimedia Commons