Controlling the Controllables

“The chief task in life is simply this: to identify and separate matters so that I can say clearly to myself which are externals not under my control, and which have to do with the choices I actually control.  Where then do I look for good and evil?  Not to uncontrollable externals, but within myself to the choices that are my own . . .”

—Epictetus, Discourses, 2.5.4–5

Epictetus was a Stoic philosopher who was born a slave and lived in Rome until his banishment to Greece.  He reasoned that all external events are beyond our control, so we should calmly and dispassionately accept whatever happens.  However, Epictetus also believed that individuals are responsible for their own actions, which they can examine and control through rigorous self-discipline.

When we find ourselves awash in confusion, anxiety and uncertainty, we can apply Epictetus’ lessons, particularly in the realm of personal finance.

Lesson 1:  Classify

The critical first step is to understand the world and create a realistic “control” taxonomy.  It’s actually quite simple.  All the variables in our financial lives fall into one of these three categories:

  • Total control.  Here, the most important variables are saving and deferring consumption versus spending, asset allocation, and our behavior regarding our investments.
  • Some control.  Based on our educational and occupational choices, we have some control over our employment earnings and how long we choose to work.  Based on our nutrition, exercise and wellness choices, we also have some control over our potential life spans.
  • No control.  We have no control whatsoever over public policy, including taxes and the treatment of different forms of savings over time, or market returns.

Drivers of Lifetime Investment Outcomes

Lesson 2:  Control the Controllables

We need only turn on the TV or open a newspaper to realize the futility of focusing on public policy or market returns.  More often than we might like, the former gets made up on the fly as events transpire.  And the latter is largely dependent on the former.  There is no playbook, there is no precedent, there is no crystal ball—and no one knows exactly what’s going to happen.  It’s really that simple.

And since the “some control” category largely reflects the cumulative consequences of a lifetime of decisions, there is no lever we can suddenly pull to quickly change the arc of a long trajectory.  Reality doesn’t work that way.

This effectively reduces the control pie to how much we save, how we invest our assets, and—most critically—how we behave with respect to our investments.

How We Behave

Let’s assume that you have a perfect financial plan and a perfect asset allocation—designed in concert to maximize both the probability of achieving all your financial goals and the value of your portfolio value at the end of the plan.  What remains is the most excruciatingly difficult task of all:  staying the course.

Your Portfolio Is Like a Bar of Soap

Think about your portfolio like a bar of soap:  The more you touch it, the smaller it gets.

Researchers have observed that excessive trading is a major drag on performance.  Based on studies of the relationship between portfolio turnover and performance, equity mutual funds in the highest quartile of turnover consistently have the lowest rates of benchmark outperformance.

Don’t Do Something, Just Stand There

Benjamin Graham said, “The investor’s chief problem—and even his worst enemy—is likely to be himself.”  Similarly, Nobel Prize-winning behavioral economist Daniel Kahneman advised, “All of us would be better investors if we just made fewer decisions.”  Here is Vanguard founder Jack Bogle’s more memorable spin on the same subject:

While the interests of Wall Street’s businesses are well served by an aphorism “Don’t just stand there—do something!” the interests of Main Street’s investors are well served by an approach that is its diametrical opposite:  “Don’t do something—just stand there!”

The takeaway is that investor behavior—not investment performance—drives the financial outcomes experienced by most investors.

If your financial plan hasn’t changed, there is no need to change your portfolio.  Long-term equity investors simply need to tune out the volatility—over which they have no control—and stay the course by remaining fully invested, where they have complete control.  Declines always turn out to be temporary—a blip in one’s investing career—but the uptrend in equity prices is permanent.

Ulysses put wax in his men’s ears and had them tie him to the mast to avoid the deadly consequences of hearing the Sirens’ songs.  Likewise, you must block out the media noise and avoid the adverse investment consequences of reacting to the shallow risk of temporary declines.  Or as another great Stoic, Seneca the Younger, observed:  “We should always allow some time to elapse, for time discloses the truth.”  In other words, think in decades, not days.

Behavioral Takeaway

The illusion of control is the tendency for people to overestimate their ability to control events.  To achieve superior lifetime investment performance, we need to focus on the three elements we do control:  savings, asset allocation, and our own investing behavior.