We always encourage our clients to think long-term about their investments. This is not just an empty platitude; we encourage it because it works. With markets going haywire this year, trying to avoid further losses can be tempting, but that often ends up hurting more than it helps.
A Rough First Half
Both the stock and bond markets have been under considerable pressure in 2022. There are any number of possible explanations for the decline – rising interest rates, an overvalued market, a potential economic slowdown, the Russia-Ukraine war, supply chain issues, rising inflation, etc.
Given how complicated the markets are, any attempt to pinpoint an exact cause of the drop seems like nothing more than a Rorschach test for whoever is trying to do the pinpointing. In reality, some combination of all these (and, perhaps, other) factors are likely causing the recent pullback in the markets.
While it is never fun for an investor to experience a market drop that impacts their portfolio, it is important to remember that market drops are a natural part of investing. Going back to 1950, the S&P 500 has experienced a decline of at least 10% once every other year. The same is true for the NASDAQ (which started in 1971) and the Russell 2000 (1979). Unfortunately, sometimes the declines get worse, and you end up with either a bear market (down 20%+) or even a dreaded crash (down 30%+).
While it would be great to avoid these downturns, it is simply impossible to time the market. No one can consistently know precisely when and how to avoid market declines. No matter how unpleasant it may feel, if you are invested in the market, you will experience many meaningful drops in value throughout your investing life. How you respond to them matters most to your long-term financial well-being.
Fighting the Urge
The urge to do something is always strong. But unfortunately, our human instincts, honed over tens of thousands of years of survival in the wild, lead us astray in this situation. Our first impulse is to sell out and “stop the bleeding.” But this innate sense of survival can often be wrong. Think back to March 2020, when the market dropped 30% in weeks as COVID spread worldwide. The desire to sell was strong (and many did), but it turned out to be the wrong move. Markets rebounded strongly and swiftly, quickly reaching new all-time highs.
Something important to note is that if you do decide to sell out of the market, that is not the only decision you face. You must also decide when and if to get back into the market. Most investors who pull out usually wait for some promising sign before reinvesting their money. But markets are forward-looking; they tend to recover well before the good news shows up in the data or headlines.
Thinking back to the 2008-2009 Great Financial Crisis: markets bottomed in March of 2009, but unemployment numbers kept deteriorating until November of that year. If you waited for unemployment to stabilize, you missed a 60%+ recovery. This underscores the futility of trying to time the market and highlights the tremendous negative impact that trying and failing can have on your portfolio.
The Good News
The good news is that despite all the corrections, bear markets, and even crashes, the markets have rewarded those who stayed the course (or better yet, rebalanced regularly). The compound annual growth rates for the S&P (+11.3%), Nasdaq (+9.5%), and Russell 2000 (+10.9%) have all been strong over the periods mentioned above.
While it can be tempting to think that you might be able to improve upon those performances via adroit market timing, the sad truth is that you are much more likely to realize a much worse performance. Study after study has shown that the average mutual fund investor materially underperforms the fund itself, a gap that poorly timed market bets can only explain.
Markets will not always go up, but they have rewarded the long-term investor over time. While we know you get tired of hearing it, the best advice we can give is to stay the course and ensure that your portfolio is aligned with your financial goals.
David Crossman, CFA, is a Senior Portfolio Manager with Bedel Financial Consulting, Inc., a wealth management firm located in Indianapolis. For more information, visit their website at www.bedelfinancial.com or email David at firstname.lastname@example.org.