"The stock market is notorious for transferring wealth from the impatient to the patient."
Warren Buffet said it. When he talks, we listen. What did he mean by that? Continue reading to find out....
When we look at investing from the 30,000 foot, long term view, it appears to be a simple path towards success. We hear phrases like:
“Over the long term the market has averaged 10%!”
“On average you could double your money every 7-8 years!”
…and those perspectives make investing seem like a Sunday stroll in the park. While accurate (depending on the time frame you’re analyzing), maybe these averages set unrealistic expectations of the journey. I just invest, and voila!, I’m averaging 10% returns and I’m on my way towards financial independence. This is easy!
But it isn’t. Let’s look at some statistics that prove investing, despite its long-term averages, is no walk in the park. Let me tell you why it’s more of a marathon... with several gut check moments along the way.
As I write this post, we’ve just endured the worst calendar month in a decade with many global markets falling 10% or more in just a few weeks time. It’s been swift, and it’s been painful. But it’s not uncommon. You’re probably hearing the phrase “correction” a lot right now so let’s discuss what this means and how frequent they have really been.
A correction is defined as a 10% drop in a stock market index, and looking back, we’ve seen A LOT of them.
Take a look at the graphic below. The gray bars represent the final total annual return. The red dots represent the largest decline experienced within that given year. From 1980 through 2017 we saw intra-year declines of more than 10% in 21 of these 38 years. On average, the market dropped by about 14% at some point each year! So that must mean investors got hammered during that period, right? Wrong. Very…..very wrong.
Looking closer at the chart we actually see that stocks only ended the year negative in 7 of those 21 years in which we experienced a 10% drop. Think about that: 2 out of every 3 times we’ve seen a 10%+ pullback since 1980, investors have experienced positive annual returns! Overall, stocks posted positive returns in 28 of the 37 years charted here. So, despite stocks dropping by 10% or more in well over half the years charted, stocks still gained value over 75% of the time. Corrections do not ensure doom.
Look at 2018, for example. We don’t know where the market will finish, but as of now, we are just about flat on the year despite experiencing 2 separate corrections. It’s plausible that we could actually see the stock markets generate a positive return in 2018 despite two 10% drops.
So what’s the "secret sauce" to navigating through market corrections? Patience and Perseverance. Boring, right?
Look, it’s grueling to turn on the television and see huge red numbers and imagine what that must mean for your accounts. It’s miserable to get that monthly or quarterly statement in the mail, knowing the market is down 10-15% since you last got one, and being nervous to open the envelope. It takes a mental and emotional toll on us. We’re human, and we hate to lose money. We hate it so much that sometimes we get upset and make rash decisions.
What constitutes a rash decision? Making big investment decisions under duress. Very rarely does the average investor make educated decisions when they’re upset. So what’s the "right" decision?
History shows that the simple strategy of staying invested generally has worked in the long term. We can see in the chart above that most of the time these corrections happen, things actually end up OK. One way to guarantee sustained or permanent pain in situations like these is to make a decision under duress to move out of the market and miss the next rally. It is not being invested during a correction that will hurt you. It’s being uninvested if a rally happens that really dooms impatient investors. The stock market is notorious for transferring wealth from the impatient to the patient.
Staying invested when it hurts can feel like 13 miles into a marathon with no end in sight; grueling, but it’s a hallmark of long-term investors. If you exercise patience and perseverance when things get tough, you may just come out alright. And plus, what feels better than grinding through a difficult situation and achieving a positive result?
So the next time we encounter a correction, which happens to be right now, remember these 3 things:
- Corrections Suck
- Corrections are Common
- More often than not, stocks still generate positive returns in years corrections happen.
It’s no walk in the park, but the potential payoff at the finish line may be worth the pain endured along the way.
P.S: Corrections are usually not marathons in and of themselves. In the past 30 years, only twice has a pullback lasted more than a year: The Dot.com Bubble from 2000-2002 and the Great Recession of 2007-2009. The other 15 corrections lasted an average of just 70 days.
Past performance does not guarantee future results. Investing involves risk, including the potential for loss of principal.
This is meant for educational purposes only. It should not be considered investment advice, nor does it constitute a recommendation to take a particular course of action. Please consult with a financial professional regarding your personal situation prior to making any financial related decisions. 10/18