Sometimes a strong market run makes people nervous
When the stock market has a strong upward run, people get nervous. They wonder how long the rise can possibly continue. Isn’t it getting too good to be true? When will the crash come?
It’s sort of funny to me how we worry about the stock market. We get nervous when they do too well for too long and we are depressed when they are declining. A flat market that seems to be doing nothing is frustrating. When are we actually satisfied with the stock market?
This worry, fear and frustration naturally leads to people wanting to do something. Get in, get out, take profits…whatever. But an investment account is like a bar of soap: the more you touch it the smaller it gets. The most important messages about investing are ones we’ve heard a million times: invest for the long run, buy and hold, and don’t try to time the market.
Why do people feel so nervous when the stock market is on a tear? There are two situations that I have found to be difficult for people. The first is that people who have money invested in stocks, mutual funds or ETF wonder if they should “take profits” by selling their winning stocks/mutual funds/ETFs. The second is that they have cash to invest and are afraid of buying at the top.
Let’s address both of these fears, starting with the “when to sell” question. Investing in the stock market is not for the short term – you need to have a time horizon of at least three years to put even a small amount of your money in the market. To commit a large proportion of money you need a time horizon of at least eight years. So the question of whether you should sell is determined by one question: do you need the money in the next three years? If so, yup it’s probably a good idea to park your money in something safer. If your time horizon is longer, why sell now and risk missing out on further gains?
The second fear is getting into the market when it’s already had a good run, worrying that it will decline right after you buy. I get it – no one likes to be the sucker who gets in last and pays the most. But here’s the thing: what looks like a “good run” could just be a small part of much longer market rise. It’s impossible to say. And if you wait for a pull-back, will you then feel comfortable investing in a falling market? How far down will it go? How long should you wait to make sure it has stopped falling? No matter what the market conditions, there’s always a reason to procrastinate. It rarely feels like the “right” time to get invested.
Here are a few thoughts that can help you feel comfortable with your stock market investments, even when markets seem frothy.
Reframe it. If you are worried about the next stock market crash, use different words for what a market decline means. Our natural inclination is to think of a falling market as losing money. Most likely, though, you aren’t losing your money. You are simply giving back some of the gains you already made. Perhaps this will help you weather a decline with more grace.
Now what? If you are thinking of selling because markets have done so well, ask yourself this: once you sell and have cash, what are you going to do with that money? It might sit in a savings account earning next-to-nothing or in a GIC earning less than 4%. And how long are you going to do that for? When will you get back into the market? It’s one thing to get out but it’s another thing to know when to get back in. Market bounces happen quickly and are always a surprise – if you are sitting in cash waiting for the big bounce, you’re probably going to miss it. Check out this graphic on the impact of missing out on the best ten days in the market – it might encourage you to just stay invested.
Sell high, buy high. I work with a lot of people who are switching to being do-it-yourself investors. In some cases, they have left their financial advisor and transferred their money to their new accounts, sitting in cash. Now they need to get that cash invested but they are reluctant to put it all of it in at once at what might feel like the top of the market. But think of it this way: if you are transferring your money from a financial advisor to an online broker, you probably just sold a bunch of mutual funds. These mutual funds benefitted from the rise in the stock market and you are really just buying at a similar level you sold at. So don’t worry – you already benefitted from the big upswing and you aren’t “buying at the peak”.
Break it up. If you are emotionally anxious about investing a large lump sum in the market all at once, then do it in pieces. Although the research shows that it’s better to invest it all at once right away than to piece it out over time, the research can’t measure how well you sleep at night. The solution is to divide your lump sum into two, three or four chunks and define a schedule for putting the money in the market. It’s key to pick specific dates – say December 1st, February 1st, April 1st, and June 1st – because this provides discipline. Without a schedule, you may continue the game of “Is now the right time?” and continue to obsess and procrastinate. When the date arrives, make the trade.
Rethink your risk tolerance. If you’re checking your investments daily and wondering what you should do with them, maybe it’s time to re-think your asset allocation. Although you think you want volatility and higher returns, maybe you just can’t handle the tension. A true long-term investor who only cares about what they have in their account ten years from now isn’t looking at their accounts daily. Maybe you need to cash in some of your equity ETFs and sit in the safety and security of GICs. For some people, have this guaranteed portion can help them stomach volatility in the rest of their investments.
Yes, the S&P 500 is up 35% over the past year. The Canadian market is up 25%. Be happy and carry on.
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