Although stocks are opening higher this morning, yesterday brought more devastation to the stock market. Stocks are now down 13 percent over the past week and down 11 percent for the year. This is bad news for stock investors, with the worst short-term performance since the market crashed at the beginning of the recession. This is, in most investor’s minds, the second dip in the “double dip” recession that people have been fearing for the past few years.
Ron Lieber, a financial columnist at the New York Times, explained who should use this as an opportunity to sell. Buying stocks after they’ve increased, the point where the media seems to agree there’s stability in the market, and selling stocks after they’ve decreased, the point where the media has decided there’s no hope, is a sure way to lose money in the long run.
If these major swings in the stock market keep you up at night, you shouldn’t be investing in the stock market in the first place. The reason stocks live up to their long-term growth potential is because they can be risky in the short-term. These swings and occasional, cyclical recessions, should be expected. Most people, those who aren’t interested in investing in their own business (an even riskier proposition) or trying to get rich by renting out property, the stock market is the only avenue for building wealth over the long term. This is the path to a comfortable retirement.
There is a lot of criticism of this point of view — the same advice that’s heard in the financial media every time there’s a significant stock market decline. Here are some typical responses from people who are offended by this viewpoint, and to some extent they may be right.
Note that these are the typical responses, not my opinion of the situation.
- The game is rigged. Only institutional investors or large investors can succeed in the stock market. The small-time average investor cannot succeed because the stock market is designed to favor those who have more buying power. The more money you have, the more investment options and better deals available.
- It’s a media conspiracy. The financial news media has been encouraging investors to continue buying because this is how financial companies make a profit. Whether you buy or sell, the financial industry profits, so they don’t care which you do as long as you’re continuing to make transactions. The media want the financial industry to survive and thrive so they have another day to write about it.
- Our political leaders want the market to fail. The nature of a two-party political system is competitive. Usually this is a good thing, but if one party has the possibility of bringing the economy down and blaming it on the other party, expect the politicians, whose only desire is more power, to take advantage of the situation. Never mind that millions of citizen’s finances could be ruined in the process.
- This (and every) stock market crash is a result of too much (or not enough) government regulation. This is the argument for and against a complete free-market economic system (which we’ve never had).
- The stock market is controlled by computer trading. Many of the large investors use models to trade, which tend to exacerbate sell-offs. If a program is designed to sell investments when they lose a certain percentage, the automatic and quick sale will continue to pull the price of a share down, triggering more computer models. How can an individual investor who busy and sells by researching a company and initiating a trade online keep up with the faster-than-light trading techniques that move the market?
- We’re entering a new paradigm. Each time the market suffers, there is a concern that we are entering a new era — a period of time when the fundamental concept of long-term performance can no longer be expected from the stock market because the economy is now somehow different.
Whether or not you succeed in investing in the stock market is defined by its performance leading up to when you sell. In the last recession, many retirees saw their nest egg plummet. The market may still have been up overall for the twenty or thirty or forty years they were investing, but when they had the most money in the market, as they approached the date of retirement, the bad performance was much more damaging. When you look at your portfolio in terms of dollars, that’s a valid conclusion, but retirees who need to access the value of their investments for cash could minimize the losses by only withdrawing small amounts over time, giving the market a chance to move up again.
Now that I’ve veered away from the concept of working at a corporate employer for the rest of my pre-retirement life, I’m not sure how my plans fit into the concept of investing until retirement and walking away from work one day. Most of my wealth is in my business — a risky business. I’m still investing in retirement accounts, recognizing that even if I decide to stop working early, I can’t touch these funds without incurring penalties until I’ve aged to the point the government has decreed as retirement age.
My plans haven’t changed due to the latest stock market downturn. I initiated a transfer yesterday to move the remainder of my money market investments in Vanguard to the total stock market index. In addition, I confirmed my monthly investment in my Individual 401(k). There may be some losses ahead in the short term, but I still think that the stock market will be the best option for this money over the long term.
Published or updated August 9, 2011.