The Stock Market Declined, Now What?
May 27, 2010
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“Don’t let short-run fluctuations, market psychology, false hope, fear, and greed get in the way of good investment judgment.” – John Bogle.
Last week I was contacted by Sarah Morgan, a writer for SmartMoney.com, who had some questions about the recent volatility and decline in the stock market. Normally, I don’t respond to the press, but her initial question struck me to my core. Ms. Morgan wanted to know if clients were panicking. My clients? Panicking? She obviously did not know me or my investment philosophy. My email response to her was this, “I would take it as a tremendous failure of education and preparation if my clients were panicking now.”
I went on to say that in trying to time the market (which, as I’ve said before, is patently impossible) investors are more likely to hurt themselves by not being invested when the rebound comes. And, as historical data prove, there is always a rebound, because the long-term trend is up.
I admit that I took pride in being able to tell Ms. Morgan that clients of Key Financial Solutions do not panic. Rather, they sit and hold tight and ride out the roller coaster. They’re prepared for short-term fluctuations and declines, simply because they have a long term plan.
Their Investment Policy Statement specifies a well-balanced portfolio that includes a combination of stock mutual funds and bonds (in ratios that we have decided upon, based upon time horizon, risk tolerance, etc.). So, even a 10% decline in the stock market has little effect on my clients. And should a market decline be steep enough to affect a portfolio, rebalancing – selling some (appreciated) bonds and buying some (now, underweight) equities – is appropriate to reestablish the portfolio’s target mix.
That information was enough to spur a half-hour long phone conversation and a follow-up email.
It was gratifying to read the article, After Market Slide, What’s Your Next Move?, and not just because I was quoted. No, I was happy to see that Ms. Morgan got it right. She quoted a number of people who said that long-term investing is the key to success.
Having a well thought out Investment Policy Statement is the best chance I know of to stick with a long-term plan. When markets experience extreme volatility, it sure helps to have a strategy that is based on more than a prediction of what today’s news means to your investment portfolio.
And what are the rewards of long-term investing versus the risk of getting out of the market? Christopher Davis of Davis Advisors gave a presentation at the NAPFA (National Association of Personal Financial Advisors) National Conference. Here is what he reported.
Average Annual Returns for 1995 – 2009 for investing in the S&P 500
| 8.0% | for Staying the Course | |
| 3.2% | if you missed the 10 best days | |
| -2.6% | if you missed the 30 best days | |
| -9.2% | if you missed the 60 best days |
For a fifteen year period, if you missed the 30 best days, you could have managed to lose 2.6% per year, versus earning 8.0% per year. Thirty days in 15 years!
So let me turn the original question on its head, “Why would anyone risk being out of the stock market?”
Nice article and lots of good points. I think that if you were out of the market for the worst 30 days the returns jumps to 16.7 %, but I am not 100% sure of that number. The point is that being out for the 30 best or worst is a statistical improbability but you get the point.
All these numbers that show the dangers of being out of the market are of course used by those who benefit from the public being invested and those who show the benefit of being out of the market benefit from……….. I am not sure..
Morris,
You’re right of course. The numbers are somewhat misleading, because it would be difficult to be out of the market at just the wrong times. On the other hand, the buy-and-hold numbers are good enough on their own to suggest that trying to time the market is unnecessary.
Do you attempt to time stock market swings? If not, how do you convince people that getting in and out of the market is a losing strategy?
Roger
Roger
I will increase cash and bond positions when warranted, usually by 5 or 10%. Of course I feel axious being in cash and if I am wrong try to get back in at a level of where I got out. I think it would take an A Bomb for me to say “sell everything” but in stressful times raising cash does help mitigate some damage and also lets the client know that you are aware of their concerns.
When I started in this business many years ago I recall the wholesalers showing those darn charts about missing the market moves and now you have the leveraged ETFs to use so that the prescient trader can take advantage of those outsized moves.
The public does need to understand that investing and accumulation are not things which are like… rocket science and that common sense goes a long way in helping you achieve your goals. Have a nice core in the portfolio and allow the fringes to add or subtract marginal value.