Volatility returned to the market in a big way in 2018 after relatively smooth sailing upwards the previous year. Many investors experienced severe losses for the first time in a while — or if you started investing in 2009, for the first time ever. Ten years is a long time to forget about how awful it feels to lose money in the market.
The hardest thing to do for many investors is to maintain the courage of their convictions. If the reasons why someone invested in the stock are still valid, stay the course, ignore daily fluctuations and perhaps buy when others are selling.
Don’t just take it from me, though. Three experts offer their advice on how to best manage anxiety when investing in the stock market.
Daniel Grote, Partner at Latitude Financial Group in Denver, Colorado
Investment behavior drives over 85% of investment performance. Therefore, make every attempt to get thinking out of your emotional response centers (fight or flight) and into your frontal lobes where reason and logic can rule the day. Avoid making big changes without affirmation from trusted sources who are separated from the situation and able to offer objective help. In times of crisis, thoughts and actions are driven by the most prehistoric part of the brain meant to deal with saber-toothed tigers but not necessarily the crises of this world. Don’t be afraid to ask for help.
Ask the question: is market volatility a normal part of investing? Of course it is. Recognize that what we’ve recently experienced is actually normal rather than what we experienced in 2017 where there was almost no volatile pattern at all.
Reflect on your values — those closely held beliefs that matter most when the whole world seems to be falling apart. These values are generally long-term drivers of behavior sharing that commonality with the reason you invest in the first place. Invest through the ups and the downs. The best gains, in the end, will be from shares purchased during times like this.
There are truly some great sales going on right now in stocks. The S&P 500 is currently trading at 16.35 times earnings. The long-term average is 23.83 times earnings making for a 31.4% discount. International stocks are trading at 13.36 times earnings. The historical average is 17.84 times earnings creating a 25.1% discount.
There’s been a lot of talk that based upon an inverted yield curve, we’re heading for a recession. So what? Do you realize that in the 12 months following the last five yield curve inversions (that indicated a recession), the S&P 500 produced an average return of 15.08%?
If you must make significant decisions in crisis moments, challenge the motives for the decision and weigh them against your values mentioned earlier. Is there symmetry between the decision and the values? Or, is there some contradiction and friction? If so, spend more time with the problem and possible solutions.
Consider your time horizon for your investments. Understand that all of your money will probably not be needed in the first five years of your retirement. In fact, some of your retirement dollars may have a 25-year time horizon even if you’re right at the beginning of retirement. This is because of life expectancy — the period of time you really need your money to last.
Robert R. Johnson, Ph.D. Professor of Finance at Creighton University’s Heider College of Business in Omaha, Nebraska
Volatility can cause some investors to lose their nerve and abandon their strategy during market dislocations. They succumb to behavioral biases and end up “buying high and selling low.” In other words, volatility induces bad investor behavior.
Long-term investors can take comfort that many of the large daily price declines are at least partially offset by similar price increases and that, when measured over longer periods, volatility has not increased.
Behavioral economists note that investors have a recency bias — that is, we tend to overweigh the most recent time period. In 2017, volatility was virtually absent from the stock market. For 2017, the S&P 500 completed a 12-month period of consecutive monthly positive total returns for the first time since 1950.
Building wealth is a marathon, not a sprint. A long-term perspective is the single most important quality necessary for success in investing. Markets can be irrationally overvalued or undervalued in the short term. Sentiment drives the market in the short run, while fundamentals drive the market in the long run.
Long-term investors should have a diversified portfolio of common stocks and ride out market volatility. According to data compiled by Ibbotson Associates, large capitalization stocks returned 10.2% compounded annually from 1926-2017. Over that same time period, long-term government bonds returned 5.5% annually and t-bills returned 3.4% annually. The surest way to build wealth over long time horizons is to invest in a diversified portfolio of common stocks. Investors are well-served to ride out the volatility and not attempt to time the market.
Investors who get in and out of the stock market invariably end up buying high and selling low. Even missing a few positive days can negatively impact your return over a long period of time. From 1996 through 2016, the S&P 500 returned 8.19% annually. If an investor attempted to time the market and missed the five best days, the return would fall to 5.99%. Miss the ten best days and the return falls by over half to 4%. The Wall Street adage “time in the market is more important than timing the market” rings true.
While it is true that long periods of time can witness anemic returns in the stock market – the lost decade of the 2000s witnessed an average annual return of -0.9% on the S&P 500 – since 1970 the lowest 20-year holding period for large-cap stocks provided a return of 7.20% annually.
Remarkably, $1 invested in a large capitalization stock market index at year end 1925 would have grown to $7,352.68 by year end 2017. While most of us have a much shorter investment time horizon, compound interest is a wonderful thing.
Don’t open your brokerage statements. Stay the course, you will be glad you did.
Terrance McGuire, Partner and Portfolio Manager at Dividend Growth Partners in Palos Verdes Estates, California
Accept that portfolio values will move up and down, and focus on other things instead. Watching your portfolio value move up and down is only natural and about as useful as watching a yo-yo do the same. Instead, we encourage investors to think about what they are really trying to achieve with their portfolio and pay attention to that instead. For example, we work with many investors to build growing dividend income, or their own personal income stream, over time. Focusing on consistent income generation, rather than fluctuating portfolio values, can help keep investors stay grounded and can add to their peace of mind.
Personal anecdote: We had one client who was comfortable with rental real estate, but was less comfortable with the ups and downs of the stock market. Once we got them to understand that their dividend payments were like rent checks, they starting worrying less about their portfolio and more about building income over time.
Try to focus on the positives of volatility, not the negatives. Volatility, while unfortunate, can be an investor’s best friend. Do you like sales? When the market experiences significant drops, this means prices just got cheaper. A bear market can create angst for some people, but also the excitement of a big sale for others.
Take action and look for specific opportunities. Contrary to traditional advice that often recommends staying the course and just riding things out, volatile times can also be a time for action. Is there a particular stock you have been thinking about or wished you had bought? Is there a gap in your portfolio, say exposure to a certain sector, you would like to fill? Are you overdue to contribute to an IRA or a 529 plan? Consider using price drops in the market to help build the portfolio you really wanted. Not only can this potentially help your investment results, but it can also be personally rewarding to take such actions in the face of uncertainty.
Overcoming emotions is the greatest skill an investor needs to master. It is very hard to do so when stocks are down significantly and portfolios are losing money. However, those losses are paper losses and do not become real losses until the stocks are sold.
Dividends offer some protection from bear markets. Many stocks pay good dividends, so you can collect income during market downturns and can then use the cash to continue buying while stocks are on sale. Look for so-called “dividend aristocrats,” companies that have a history of continually raising their dividend throughout economic cycles.
I hope that helps ease some of your anxiety. There are no sure things in the stock market, but history tells us that every bear market has been followed by a bull market! Strap on your seatbelt and hang on for the ride…