Financial Planning Series: Staying Invested as Markets Decline
By Christopher Gardner, CFA, Capital Analysts of Jacksonville
Financial planning is an invaluable tool to help your family and your business weather the market's inevitable storms. When markets decline, investors often ask themselves, “What’s the worst that can happen? Will I lose all the money I’ve invested in the market over the years?”
Market declines, like the one we saw during the 2008-2009 financial crisis, are incredibly stressful for investors and are likely to leave you asking these questions over and over until you either quit looking at your investments or throw in the towel and get out. We’re in a period right now where stocks are up and seem to shrug off whatever geopolitical crisis is the topic du jour. We have also just crossed 10 years since the S&P 500 peaked at around 1570 to 1580 or so in October of 2007 and subsequently fell to the mid 660s. Let’s take a couple minutes to explore, with the benefit of hindsight, how this may have turned out for investors who made different decisions about what to do as the market began to crash.
Let’s start with an investor who rode out all the ups and downs and stayed invested the whole time.
For simplicity, we will assume she had $100,000 invested at the market peak in October 2007 and that her returns mirrored those of the S&P 500 total return index (which assumes that dividends are reinvested back into stocks). Although this is a simplified example, the insights we gain are still valuable.
This investor started out with $100,000 and saw the value of her stocks decline to a little under $50,000 coming into March of 2009. This is about a 50% decline and is sure to cause even the bravest among us to seriously question whether they made the right choice and if they will ever recover. If we fast forward 10 years through September of 2017, this investor’s stocks would be worth a little under $205,000. In other words, she actually doubled her money over that 10-year period. This is in spite of going through one of the worst stock market downturns we have ever seen near the beginning of that time frame. This translates to an annualized rate of return of about 7.44% per year.
Now let’s see what happened with an investor who also started with $100,000 in the market with returns also mirroring the S&P 500 total return, but decided he could no longer afford to lose any more money as the markets declined.
This investor sold all his stocks, going into cash at the end of February 2009, right as the market was nearing its lowest point during the financial crisis. For simplicity, we’ll assume he went to cash at that time and subsequently had returns in line with the Bloomberg Barclays US Treasury Bill 1-3 month total return index (an index often used to represent returns on cash).
This investor also started out with $100,000 coming into October of 2007, but sold out of his stocks near the bottom for just under $50,000. Since interest rates fell dramatically and were minimal for much of the past 10 years, his money only grew to just under $50,500 after moving to cash. His annual return over the entire period was actually -6.6% per year.
This illustration provides some historical context; however, what are the real takeaways that can help you be a better investor?
First, the most important takeaway is to avoid panicking. Don’t let your emotions get in the way of sound decision making. This is definitely easier said than done. When times get tough, it is critical to step back, take a deep breath, and evaluate your plan. If a loved one is having symptoms of a heart attack, panicking is not a prudent course of action. Instead, you calm down, call 911, and do whatever the dispatcher tells you to do in order to stabilize the situation as best you can until the emergency responders arrive on the scene. Your investments should be handled in the same way.
The second takeaway is to make sure you have a plan you are comfortable with before the markets start to head south, including knowing how long the money will be invested. This is where working with a financial advisor can help immensely. Investors who have put in the time to develop a plan that is designed to meet their needs and that doesn’t subject them to more risk than they are comfortable with are far more likely to stick to their plan when markets get choppy and uncertainty is on the rise. They should end up more like the first investor in our example above, rather than the second investor, who ultimately wasn’t comfortable with his plan and bailed out at the worst possible time.
Financial planning provides a solid foundation to help you pursue your long-term goals. If you do not yet have a financial plan for how to weather the inevitable storms, or if it’s been a while and you’d just like to see if you’re still on track, we invite you to give us a call at (904) 730-7433. Our experienced financial advisors are happy to discuss your individual situation and work with you to develop a plan that works for you.
Sources: Morningstar Advisor Workstation, 10/13/17; Yahoo Finance, 10/13/17
The information above is for comparative purposes only. It is not meant to imply that an investment could have been made in the index. Past performance does not guarantee future results. The S&P 500 Index is an index of 500 of the largest exchange-traded stocks in the US from a broad range of industries whose collective performance mirrors the overall stock market. The above hypothetical examples are for illustrative purposes only and do not attempt to predict actual results of any particular investment.