Some things cannot be adequately explained to a virgin.
The other week, a client called me from Mexico on her new vanlife journey around North America. She has modest assets and is trying to define herself less by her job, which she is doing part-time remotely. I’m proudly responsible for the financial plan supporting her life goal.
I mentioned to her that the US stock markets were down over 11%. “Oh yeah, look at that,” she said, reviewing her online statements, with interest but not worry.
If, like her, you were living your best life last month and not paying attention to the stock market, kudos. It’s not good for investor health or wealth to pay close attention to stock market returns.
As an investment manager, I watch the market every trading day, but I do so having spent a lot of time studying the history of stock markets. "The investor who is unaware of financial history is irretrievably handicapped,” says the amazing William Bernstein in my favorite book on investing.
A 10% change over a short period of time is considered by some the definition of a crash, but they happen almost every other year. It’s not a big deal.
What is a big deal are bear markets. Another one will happen, probably in the next 3-7 years based on historical averages. We've had 18 since 1940, with two of the deepest and longest in the first decade of the new millennium: the 2002 tech crash, and the 2008 financial crisis.
Bear markets are full of economic distress. People lose jobs, homes, health and opportunity. Even if you, friends, and family are not terribly affected, as an investor it’s a dangerous time. Bear markets since the 2007-2008 financial crisis have been relatively short. But even in the Coronavirus bear market, one out of five investors and one in three in retirement sold all of their stock, according to Fidelity. For those in their 60s, the number was nearly double that.
If you sell your stocks in a bear market you lock in those losses and miss future gains. It’s harder than people think to get back in. People report shame. They wait for the ‘market to crash again’ so they can ‘fix the mistake.’ This only makes it worse.
According to Vanguard nearly 15% of investors have no stocks in their portfolios, a number they say grew after 2008 and never subsided. It can change the face of your retirement.
Let’s look at an example. Our friend is 40 in 2009 during the worst of the financial crisis and is very scared. He has a 401k of $400,000 invested in a diversified portfolio. He sells it all and waits two years to invest again. If he hadn’t sold, he would have over $1.5 million today. But because he sat out two years of the market, he now has just over $1 million today.
He’ll still be ok, but that extra $500,000 is a very costly error.
From a classic book about Wall Street by Fred Schwed’s “Where Are the Customers’ Yachts?”, first published in 1940, is the often repeated line:
“There are certain things that cannot be adequately explained to a virgin either by words or pictures. Nor can any description I might offer here even approximate what it feels like to lose a real chunk of money that you used to own.”
I’m not predicting an imminent bear market. Here is how I stay ready:
I remain fully invested in a strongly diversified portfolio of stocks and the right kind of bonds.
My personal portfolio asset allocation is based on my experience and risk tolerance.
I have an emergency cash reserve.
I’ll look for opportunities to tax-loss harvest in my non-retirement accounts.
I have a rebalancing strategy using the best research.
The next bear market will be painful and scary and we will be right to be frightened.
And if you get the urge to sell, just call me first. Please.
