For the average investor, trading stocks is like betting on a horse. You blindly read the guide and put $100 on a name you’ve barely heard of to win. In similar fashion, you might log on to a trading platform and, based solely on an article you read three months earlier, throw money behind a single stock. Doing both with a bit of “play money” is one thing but would you gamble your hard-earned retirement savings on ill-informed bets?
The reality is that getting in and out of the market, whether with a single stock or with larger chunks of your portfolio, involves a timing judgement call i.e. I’ll get in now and sell when value of X increases. Conversely, long-term investing embraces time, with the knowledge that, if your portfolio is adequately diversified and protected against downturns, its value will increase and compound over the years. There’s a reason experts preach time in the market over trying to time the market.
But here’s the trap: even a broken clock is right twice a day. In the same way anyone can occasionally pick the winner of a horse race, you don’t need to be Benjamin Graham to pick a “winning stock” once in a while. But can you do that consistently? And do you really want to be endangering your retirement income by trying to time an unpredictable seesaw market?
Staying invested makes long-term sense but volatility since the COVID crash of March 2020 has fuelled overconfidence in buy the dip, sell the rip-type strategies. Not everything that drops in value is guaranteed to come back, however. And market swings also trigger another less rational and potentially devastating human response – panic selling. The post-COVID world has exacerbated this risk, throwing several uncertainties into the mix. Nervous Nellies, therefore, have not been getting much sleep.
Following the S&P 500’s drop of 34% in 2020, the headline sentiment remains negative, even though the index rebounded to end that positive. Not only has the talk of a recession been incessant but, in 2022, inflation rose to its highest level in decades, and nobody can predict with any authority when cost-of-living pressures will subside. The Bank of Canada, meanwhile, not long after heavily hinting at a pause in its interest-rate hiking cycle, was forced into yet another raise in June, while a strong labour market in both US and Canada has only clouded forecasts.
Even if you are a long-term investor with a well-diversified portfolio, market volatility has introduced many to negative statements for the first time. The instinct to look for safety and pull your money out of the market may be understandable but is potentially fatal to your retirement portfolio. Here are a few reasons why it’s best to stay invested.
Don’t miss the rebound
Remember, it is always darkest before the dawn and, historically, good days in the market often follow the bad ones. The market downturn caused by COVID-19 was one of the most severe, but it also featured one of the fastest recoveries from a bear market. Given the speed with which it unfolded, if you sold near the low, it was near impossible to guarantee you’d have got back in fast enough to enjoy the rebound. Despite the crash, the S&P 500 recovered all its losses and finished up 16% on the year, a reversal of 50% from the low to the high. It reinforced two important lessons for long-term investors: don’t panic and sell when the market crashes, and don’t try to predict how long the recovery will take1.
Market volatility is, in fact, normal. According to JP Morgan Asset Management2, each year on average, the stock market will decline a total of 14% and yet has ended the year with gains 32 out of the past 42 years. Additionally, in the past 20 years, seven of the best 10 days in the market occurred within two weeks of the worst 10 days and six of the seven best days occurred the day following the worst day. Think you can trade your way around this? Unlikely. Keep calm and stay invested.
Beware of Rear-View Mirror Investing
Ironically, given the amount of past performance brought up in blogs like this, the future is not a re-run. Big trends over time have echoes and can inform our decisions but there is always the danger, in the short term, of succumbing to recency bias. Waiting for the perfect time to invest is like watching a 2-year-old negotiate an escalator for the first time. But if the pain of the previous bear market is preventing you from taking that step, remember that the market is a forward-thinking beast. Positive prices are priced in way before the general population comes to a consensus. Get back in as soon as possible.
To illustrate the risks of being out of the market and the relatively small reward for market timing like a genius, Morningstar and RBC Gam took five hypothetical investors with different approaches3. Each were given $2,000 at the beginning of every year for the last 20 years and invested differently. Investor 1 timed the market like a boss and got it right every time, Investor 2 invested on the first trading day of the year, Investor 3 split their money and invested it equally over 12 months (dollar-cost averaging), Investor 4 timed her invested terribly at market highs every year, while Investor 5 was stuck at the top of the escalator, didn’t invest and stayed in cash.
Here are the results:
Perfect timing: $144, 937
Invest immediately: $127,410
Dollar-cast averaging: $123,329
Bad timing: $109,816
Stay in cash: $45,017
Note that even the investor who timed the market terribly did markedly better than the one who stayed in cash, while the reward for being perfect is not worth the risk of getting out in the first place. How many times have you really picked a winning horse? Don’t reduce your investing to a serious of bets – invest and stay invested.