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Don’t Blame Retail Investors for Stocks’ Volatility

By and large, they are a steadying force.

Editor’s note: Read the latest on how the coronavirus is rattling the markets and what investors can do to navigate it.

Correction Required On June 16, Morningstar's Russ Kinnel emailed me a tweet, which alleged that "31% of investors at Fidelity between the ages of 65-69 sold all their stocks between February and May." Even though the original source was The Wall Street Journal, which normally can be trusted, that factoid struck me as ... unlikely. I responded to Russ, "My initial reaction is not to believe that. I will investigate."

Then I promptly forgot about the matter. Fortunately, an industry website for financial professionals, ThinkAdvisor, covered for my negligence. Shortly thereafter, ThinkAdvisor reported, the Journal printed a very large retraction. Fidelity estimated that 7.4% of its retiree clients had adjusted their portfolios during that February-May time period. (This applied only to 401(k) or 403(b) accounts, but never mind that.) Of that group, 31% cut their equity exposures.

Thus, the true percentage of equity sellers among Fidelity’s retiree customers was a mere 2.3% (that is, 31% of 7.4%). Further, those investors didn’t necessarily eliminate their stock holdings, because Fidelity’s calculation included those who sold equity funds by any amount. If 31% of those investors who made transactions lowered their equity exposures, then 69% either maintained their previous levels or added to them. Does that sound like a story to you?

Funds and Herd Behavior Me neither. However, there is perpetually an appetite for narratives about panicky small investors moving en masse. Such tales appeared following October 1987, and after the New Era stocks collapsed, then during the 2008 financial crisis, and again this spring. They were but rumors. The reports felt accurate, given the widespread concern about stock prices. But upon further review, retail investors didn't act in tandem. For the most part, they went their own separate ways.

Which makes sense. Retail shareholders are heterogeneous. During the bad times, some watch their portfolios intently, while others shut their eyes, waiting until the storm passes (raises hand). In addition, most retail investors don’t know what their peers are doing. It’s difficult to engage in herd behavior when you can’t see the herd.

In contrast, professional investors are better aligned. They all follow the financial markets scrupulously. They receive reports about their rivals’ performances, just as their rivals hear about theirs. The investment-management business is a club, populated by members who have similar backgrounds, work habits, and goals. Given those shared experiences, it would be surprising if they did not act at least somewhat similarly when the financial markets become turbulent.

That certainly is the case when institutions own mutual funds. A longtime adage among fund providers is that retail investors are more desirable than institutions, as not only will retail investors pay higher fees, but they also provide relatively "sticky" assets that will stay with funds through long periods of mediocre performance. Once again, everyday shareholders are heterogeneous. Some pay great attention to their investments, others not much. Whereas professionals all watch their portfolios closely. That is, after all, their day jobs.

In contrast, when institutions perceive trouble with mutual funds, they run rather than walk. On Sept. 15, 2008, Lehman Brothers declared bankruptcy. Institutional investors knew that Reserve Primary, a money market fund, held a small position in Lehman Brothers debt. They were off to the races. Within five hours--five hours!--Reserve Primary had received redemption requests that exceeded 25% of the fund's total assets.

Extending the Principle Whether institutions behave similarly with their other investments, I cannot say. My knowledge ends with registered funds. However, the circumstantial evidence suggests that institutions do. Something knocked the S&P 500 down by 30% late this winter, and something then propelled the index to recover almost all those losses. Almost certainly, the catalyst was not individual investors, not only because they appear to act less often in unison but also because they lack clout.

Specifically, retail investors hold an estimated 37.6% of U.S. equities, which admittedly is a sizable amount. However, as almost half of that total comes indirectly, mostly through mutual funds, direct household ownership of stocks is considerably less, at 20%. The remaining 80% is held almost entirely by institutions: mutual funds, exchange-traded funds, pensions, and professionally managed overseas accounts. Those monies move the U.S. stock market.

There are exceptions. The retail brokerage firm Robinhood produces a "leaderboard" of its customers' most- and least-popular stocks. As the share price of Hertz Global Holdings HTZ surged through late May and early June, despite the company being in bankruptcy proceedings, the number of Robinhood clients who owned the stock doubled. That doesn't directly indicate that individual investors sparked Hertz's recovery, but it's compelling circumstantial evidence.

Should other discount-brokerage firms follow Robinhood’s lead by treating investing as a contest, thereby publishing aggregate data so that their customers can benchmark their performances, retail investors will likely increase their herding. That situation may well occur. Robinhood has generated excitement (and a great deal of new customers), with its liveliest users checking their apps several times daily. It wouldn’t be surprising if other brokerages followed suit.

In summary, most discussions of individual-investor behavior are speculative. The numbers are hard to come by, and the academic research sparse. For those reasons, the nation’s leading financial newspaper could publish an article on the subject that deeply misstated the facts, with highly informed readers accepting the mistake. (I might have done so, too, had funds not been my specialty.) When encountering stories about how retail investors have reacted, caveat emptor.

The same goes double for Twitter feeds, of course. Make that triple.

Everything for Nothing My column about 401(k) plans potentially adding private-equity investments as a sleeve in their asset-allocation funds warned that private-equity total returns can't be taken as face value, as with those of mutual funds or ETFs. Private-equity managers can compute their performance figures by various standards, which reduces (if not eliminates) comparability and makes sorting through their results a task for experts.

I understated the issue. Following my article, the Financial Times published "Financial wizardry breathes magic into private equity returns." Technically, the FT explains, when private equity managers use internal-rate-of-return calculations to determine their performances (which mutual funds never do), that number "can be infinite." Not just something for nothing--everything for nothing!

Also, I should clarify one comment. I mentioned how private-equity managers will struggle to convince the leading 401(k) providers to add their offerings, because the 401(k) behemoths use in-house investments for their target-date funds. That is true. What I neglected to mention, though, is that Vanguard recently formed a strategic partnership with a private-equity manager. Thus, the company could introduce private equity into its target-date funds through that partnership.

Vanguard has so far kept mum on its private-equity plans, aside from stating that the initial rollout will be with “institutionally advised clients.” We shall see where that goes--and whether Vanguard’s rivals make similar announcements.

John Rekenthaler ( has been researching the fund industry since 1988. He is now a columnist for and a member of Morningstar's investment research department. John is quick to point out that while Morningstar typically agrees with the views of the Rekenthaler Report, his views are his own.

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