The Mole says "stay in the market while others are fearful"

Equity mutual fund flows Year Event Fund Flows 2000 Market High UP $309 Billion 2002 Market Low DOWN $28 Billion 2006 Last Strong Market UP $159 Billion 2008 May YTD Down Market DOWN $16 Billion Source:Investment Company Institute

NEW YORK (Money) -- Question: I have a pretty vanilla investment portfolio and an advisor who tells me to stay the course every time I call him while freaking out about the market. This money is my nest egg. I invest conservatively with mutual funds not individual stocks/ bonds. In other words, should I stay the course or freak out and sell?

The Mole's Answer: Though I typically write about advisers that fall short in servicing their clients, this time I'm going to have to squarely agree with your adviser. Any decision made while freaking out is rarely the right one.

Let's start with some data. When it comes to investing, human nature is not our friend, and will consistently lead us to do the wrong thing at the wrong time. The chart to the right shows how investor funds have flowed into stock mutual funds so far this decade.

Notice how we poured money into the stock market after the great years and panicked and sold after declines. A clear pattern of buying high and selling low, something I'm pretty sure investors didn't consciously set out to do.

Buying something on sale is the first thing we'd do if we were shopping for almost anything else, from electronics to a house. That logic is conspicuously absent when it comes to the stock market. For whatever reason, we'd rather return them at a lower price than we bought them for.

A recent study in the Journal of Banking and Finance, states that our ability to consistently time the market poorly costs us roughly 1.5% annually in returns. The study's authors, Geoffrey C. Friesen and Travis R.A. Sapp, note that investors in both actively managed funds and index funds exhibit poor investment timing.

If only retailers had it so good

Think of your favorite retail store. Whether it's Macy's (M, Fortune 500), Target (TGT, Fortune 500), or even Buy.com, we are usually more inclined to buy something we want when the retailer has a sale. In fact, on the biggest shopping day of the year, the Friday after Thanksgiving, there is the annual ritual of people standing in line for hours in the hopes of scoring that great deal when the store opens at 5:00 a.m. While I might be willing to confront the flaws in the practices of some of my fellow planners, I'm not nearly so willing to confront these crowds.

Imagine that one day your favorite store had a "we've doubled our price sale," followed by a "50% off sale." We'd all shake our heads at the absurdity of getting in line to buy at the first sale, only to then rush back and return the items at 50% of our original price.

It sounds silly, yet that's exactly what most of us do in our investing. And we do it with a lot more money than what we would spend at any store.

Why your adviser seems good

One of the roles of a good adviser is to provide some focus and discipline in your investing. In a forthcoming issue of The Review of Financial Studies, a paper points out that we advisers generally do a poor job of staying the course. Its authors, Daniel Bergstresser and Peter Tufano of the Harvard Business School and Johan Chalmers of the University of Oregon, found "no evidence that, in aggregate, brokers provide superior asset allocation advice that helps their investors time the market."

Your adviser is doing you a great service by advising you to stay the course. In doing so, he is trying to protect you from your own human instincts, which will almost certainly fail you.

My advice: While I know that I don't know what the market will do over the next six months, there are some things I do know.

• I know that we will consistently buy high and sell low if we react to our emotions.
• I know that money coming out of stock mutual funds is often a sign that the market will turn around.
• I know that the market has rarely lost money over periods of ten years or longer.
• I know that these are the times that try investors' souls and separate the speculators from the investors.

So my advice is to stay the course. Your planner seems to be one of the good ones as he is offering this advice with full knowledge that this is not what you want to hear.

Pick an asset allocation that is right for you and then stick with it like glue. Remember the wisdom of Warren Buffett, "be fearful when others are greedy and greedy when others are fearful."