UC Berkeley Haas School of Business Fisher Investments

UGBA 137 Case Study # 6 – The Tricks of Jim Davis' Mind

Your client, Jim Davis, is calling for you once again—the third day in a row.

Jim is a 65-year old recent retiree who's been your client for several years now. When he first hired you, he had recently sold his siding business (which he ran for about forty years) and was working for the new owners part-time. But now he's scaled all the way to full retirement—allowing him time to golf, enjoy his grandkids and just plain relax. Except the relaxation has been hard to come by as Jim's financial situation and investments consistently weigh on Jim's mind.

Jim needs his portfolio of $1 million to generate $45,000 per year in income for him and his 53-year old wife, Jackie, and he has a secondary goal of leaving funds to his children (one of whom is grown, but financially dependent on Jim due to a medical condition). To accomplish these goals, Jim's portfolio contains stocks—a decision he vacillates between agreeing with and disagreeing with. It isn't that stocks are new to Jim—he's owned them to an extent throughout his working career, though he admits he didn't take a very active role in portfolio management in the past. (Aside from selling CDs to buy dotcom stocks in 2000 and selling dotcom stocks to buy CDs in 2002.) It's that he's now retired and the volatility, which he frequently says, “is much higher these days,” is tough to stomach. Especially when you're retired, he often says.

When you take Jim's call, the first thing he says is that he's sure you're not surprised to hear from him. You see, Jim seems to have a habit—one he's even aware of—of calling when markets fall more than 1%. He doesn't do it when stocks rise or even when they are flattish. But when markets fall sharply, like clockwork, Jim calls. As usual, today Jim's come armed with questions. He saw a headline tick by on the bottom of a major news network stating that Greece is poised to default. “That can't be good,” Jim says. Followed by, “The year started out well, but now stocks are down big each of the last few days. I can't go through another 2008—and recently, it's starting to feel like that all over again.”

All this makes Jim wonder whether he shouldn't take less risk. He is quick to remind you the market hasn't exactly been friendly to investors over the last ten years—noting what he terms “a flat decade” along with “a roller coaster ride.” He postulates the market may have changed fundamentally in that time, and suggests a very active, in-and-out strategy might be in order. Jim wonders aloud, “The European situation was well known—why didn't we avoid this?” Then grumbles: “Someone is making money here, just not me.”

Jim's heard from a golf buddy that setting stop-losses is a key technique to preserving capital. He suggests a -7% stop loss below every position. He feels this will prevent any significant loss of capital, and if he misses some upside, that'll be ok. As he puts it, “if I see a sustained up move, I'll get back in. I've got tons of time to watch for good news.”

  1. Catalog as many of Jim's behavioral errors as you can.
  2. What does Jim consider to be the risk he's considering taking less of?
  3. Based on what you know regarding his overall situation, what factors should Jim weigh prior to mandating the implementation of this stop-loss strategy?
  4. What problems does the golf buddy's stop-loss strategy fix? What problems does this strategy not address—or even worsen?