Don’t Be a Loser in a Market Panic
Principled guidelines for investors during the current market crash.
Yes, you have every right to feel upset about the current state of your investments. You can be very, very angry at the people who allowed a business model built on extreme amounts of debt to collapse without a word from those who were mandated to watch it. You are absolutely justified in all of those feelings.
My purpose is to ensure that your feelings do not result in making decisions that you will regret later. As you watch the “cascading” stock market drift lower and lower, bond yields fall to negative levels (on an inflation adjusted basis), banks you thought were fine being snatched up by bigger rivals at fire sale prices, you may feel that there is no safe place for your money. You may be tempted to cash everything out now. Don’t do that.
It’s the worst possible action you can take with your long term investments, and will very likely cost you dearly if you do. Here’s why.
Inflation will deteriorate your returns
Historic returns on investment
- Shares of stock in small US companies – 12.7%
- Shares of stock in large US companies – 10.4%
- Long term government bonds – 5.4%
- US treasury bills – 3.7%
- Inflation – 3%
Even if you do as many have done recently and run to treasury bills for safety, you will be losing money. None of these returns are adjusted for the tax that must be paid on the gain on investment when they are sold. On an after-tax basis, adjusted for inflation, you will LOSE spending power in this investment. Guaranteed.
Market timing doesn’t work
The reason long term returns are higher in stocks is because you are paid to take risk for higher reward. One type of risk you are assuming for this investment is called “systemic risk.” That is the risk that the entire market will go down, taking, of course, your investments with it. That is a real, predictable risk that you take for being in the stock market. There was one in 2001, where the “Internet bubble” burst, in the early 1990’s, 1987 and in the mid-1970’s. Some are of a short duration; others last for years.
No one has successfully predicted market corrections. Even if it were possible to get out of the market prior to a correction, it would also be necessary to get back in at precisely the time it moved up. You’d have to be right twice, or forego much of the “rebound” that took place when the market recovered.
Let me repeat. NO ONE has successfully predicted market corrections.
Long term investing means just what it says
Jim Cramer, host of “Mad Money” on CNBC, recently advised his listeners to cash out any money they would need in the next five years. What?
The stock market is an appropriate place for long term investing, based on its historic long term returns. “Long term” is definitely over five years. Long term should actually be considered more like ten, fifteen or twenty years. Anyone who invests in the stock market for the short term is a gambler. “Trading” is gambling. It is NOT investing.
Market corrections are predictable in the course of stock market investing. They happen about every decade, as mentioned before. And, every time one happens, you would think the current correction was the first one in history, judging from the behavior of investors. If you’re not prepared to withstand a correction, you have no business in the stock market because if you sell during a correction you are guaranteed to lose money.
This is the time when serious investors make serious money
When was the last time you knew that Warren Buffett was buying? When was the last time you knew what he was buying?
Many investors follow the changes in Berkshire Hathaway, Warren Buffett’s company, for the slightest indication of what the Oracle of Omaha is buying. Usually the disclosures are made public long after his actual purchases are made. Now, we know he’s investing in Goldman Sachs and General Electric. Think about this.
Value investors, Buffett being the most successful of our time, wait for prices of well run companies with predictable earnings and competent management to fall to bargain prices. Buffett began amassing his fortune in the stock market correction in the mid 1970’s. During times like these, value investors make the investments that result in extraordinary returns.
The one important question you must answer
It’s not necessary to “pick the bottom” of this correction. All you need is the ability to know what is undervalued, and buy it. It takes courage. How do you know whether you are making the right decision?
The one question you must answer in the affirmative is this. Do you think that the US remains the premier financial powerhouse in the world?
If so, this may be the buying opportunity of a lifetime. Don’t be one of the people who passes this up, or worse, one who sells.
No one ever made a penny by panicking.
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4 Comments
Kitty, thank you for your thought provoking article. I was confused that Mr. Buffet was pushing the “bail-out”. He has always warned not to invest in something you don’t understand. And, the “bail-out” falls into that category for the vast majority of Americans. Or maybe we do understand it and don’t feel it is a wise investment to relieve the debt in order to go back into debt by releasing more credit. Seems to be a “rob Peter to pay Paul” principal. Then again, for the risk taker, it opened up for great buying and GE was definitely among the purchase. Additionally, our household has a habit of purchasing LT gov bonds with extra change on a regular basis and throw them in a box (they have been a good source of 5-year plan “fun-stuff” investing). Are you recommending that will not be the case in the future? Looking forward to hearing from you.
Hi Sherry,
Thanks for an thought provoking question. With respect to long term government bonds, as mentioned above they average 5.4% return. When you subtract Federal income tax at 20%, the yield falls to 4.32%. Then adjusted for 3% inflation, to long term total return falls to 1.32%. While that is a positive return, it is much less that that available to a long term equity investor – provided, of course, that she understands the risk inherent in the stock market.
Thank you Kitty.
My head has been spinning this year as I watch all of my investments crash. It’s awful. I’m sitting on my hands and trying not to sell but sometimes I need the money so that I can afford medicine. Too bad for all of the little folks who have to get into their savings to survive.
You probably feel much better today, Josie, and will benefit from a long term perspective with your stock market holdings. I’m concerned with your comment about having to sell your investments for medical expenses, both from the point of view that stock market investments are those that should be for at least 5 years, and also that such unexpected expenses often put long term investments at risk of being needed for short term necessities.
Best wishes to you, and thank you for your comment.