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Surviving the Next Market Crash, Part 1
By Simon Lim, CFA, CAIA | 20 September 2018
Stock market volatility returned with a vengeance in 2018. This two-part series looks at creating a long-term game plan that will help you stay disciplined during volatile periods.
Timing the market is a losing gamble
Market timing seems so easy, in theory. Buy when prices are low and sell when they are high. Anyone who follows the market and economic news daily can anticipate future stock prices, right?
Wrong, at least not over the long run. Volumes of research have shown that market timing is a losing game. Certainly, some investors have correctly predicted a market bottom or top. But over the long run the law of averages wins out, turning a market timing strategy into a game of chance. Investors often sell in a panic near the bottom and buy close to a market peak.
Missing out on only a couple of the best days each year could turn your hard-earned gains into losses. In fact, missing the best 30 days over the last 15 years – an average of 2 missing days each year - would have turned a 9.9% annual return for the buy-and-hold investor into a -0.4% loss.
Markets Are Cyclical
Historically, the nature of the stock market has been cyclical and downturns are inevitable. However, good markets have lasted far longer than bad markets and have gone up much higher than bad markets have gone down. Since 1926, the average down market has fallen 41% over 1.4 years while the average up-market has increased 476% over 9.1 years (Source: S&P).
Media Sows Fear
Most people are naturally risk-averse and media coverage often exaggerates risks. Headlines such as “Donald Trump is creating the next financial crisis” and “The next bear market will be the worst since the Great Depression” create fear and may cause you to sell your investments.
The problem with this emotional response is that, once the market recovers, you will usually be in a worse position than if you had done nothing. If you do not time it just right, the result will likely be sub-par returns.
Instead of getting whipsawed by the latest headline, remind yourself of the benefits of diversification and the role of each asset class in your portfolio. Make sure to review your plan annually to make sure it is aligned with your financial situation and future cash flow needs.