DEFINITION of ‘Ostrich’
A colloquial term that refers to the tendency of certain investors to ignore bad news that can affect their investments. In the investment context, “ostrich” is based on the popular misconception that when this large bird senses danger and cannot run away, it buries its head in the sand. Similarly, investors who exhibit ostrich-like behavior prefer to ignore negative news, which could have a significant impact on their investment portfolios, in the hope that the problem will simply go away. While this is an extremely passive approach to investing, it should be noted that the ostrich effect is not exhibited only by passive investors, but by active investors as well.
BREAKING DOWN ‘Ostrich’
An ostrich does not actually bury its head in the sand when confronted by danger, but flops to the ground and remains motionless. This passive behavior exacerbates the danger faced by the ostrich, since it becomes an easy target for a predator who is not fooled by this feeble attempt to play dead.
Likewise, investors who act like ostriches when faced with market risk – which is unavoidable – or by stock-specific risk could see their investment losses multiply if they do not “get their heads out of the sand” and take remedial action. For example, investors who chose to ignore the barrage of bad news that accompanied the 2008-09 global bear market would have suffered declines of more than 50% in their equity portfolios. Although these steep declines occurred in a relatively short time period, they did not occur overnight. While an active investor may have been successful in escaping part of these losses by trimming equity exposure before the worst of the market declines, an ostrich investor would have simply ignored the news about the bankruptcies of financial institutions, the global credit crisis, etc. and stayed fully invested.
Ironically, this buy-and-hold behavior can actually benefit an ostrich investor who holds blue-chips over long time periods, since they remain invested through good times and bad. Continuing with the above example, an ostrich investor who stayed with blue-chip U.S. equities through the 2009 market lows and subsequent rebound would have reaped the benefit of a 150% advance in the S&P 500 from March 2009 to September 2013.
But while ostrich behaviour can actually pay off if one is invested in blue-chip stocks or an index over the long term, it can take a huge toll on a portfolio if an investor has substantial exposure to a speculative stock or sector. An investor who has 20% or more of his or her total portfolio invested in a speculative stock should monitor this exposure carefully, with a view to cutting losses and salvaging at least part of the amount invested if the investment does not work out. Sticking one’s head in the sand may cost the investor dearly in this scenario.