An American trader is seen working on the New York Stock Exchange's floor in New York City. March 5, 2020. Andrew Kelly/Reuters
According to JPMorgan, while the S&P 500 has earned an annualized return 7.5% over the last two decades, the average investor has seen a return of only 2.9%.
A study by MIT has revealed which investors panic-sold at the worst time.
According to MIT men aged 45 and over who have "excellent investment experience" are more likely than others to panic-sell.
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Panic selling in stock market corrections can have a negative impact on long-term returns for individual investors. This is because the best and worst days of the market tend to occur in groups that are very difficult to predict.
According to JPMorgan data, this is why, over the past 20 years, the S&P 500 has generated an annualized return 7.5%. However, the average investor saw a gain only 2.9%.
A study by MIT found that panic selling is most common among men over 45 who are either married, or have "excellent investment experience". Additionally, panic selling is more common in cohorts that have more dependents and accounts with less than $20,000.
The MIT paper examined the trading behavior of over 600,000 brokerage accounts linked to more than 200,000 households in order to identify who is selling. It also attempted to predict when they might be selling in the future.
While individual investors can avoid future losses by selling their panic shares in panic situations, the study revealed that the greatest threat to portfolio performance was the inability to purchase back stock when the fundamental outlook is still uncertain.
"We measured the cost of panic sales, and found that while panic selling does provide protection for investors in times of crisis, such investors often wait too much to reinvest and miss significant profits when markets rebound," wrote Kathryn Kaminski and Andrew Lo.
A panic sale is a stock portfolio decline of 90% in a household over a period of one month. 50% of this decline can be attributed trades.
Although the study doesn't provide a definitive answer to the problem, anyone who has ever invested in a stock or ETF will know the feeling of panic selling when their portfolio value drops by 20%, 30% or 50% and the temptation to sell and cut losses.
These human emotions have not changed over centuries of stock market speculation and investing, and they will likely continue to be a constant source of uncertainty in markets.
The study concluded that panic selling and freaking-out are distinct financial patterns that differ from other patterns, such as over trading.
