The middle of October has been a wild ride for investors, with a drop of over 5% in the S&P 500 over two days, October 10th and 11th. Friday’s rally (October 12) offered a bit of a bounce-back, but much uncertainty remains regarding the near future of the United States economy. Our net worth took a hefty ding in just two days, so why bother with this stuff?
This week we’re going to step away from all that soft touchy-feely philosophical stuff and take a more technical look at investing and the psychology of betting your future on the stock market. Sound scary? It can be.
With all this uncertainty, and a seriously prolonged bull market since April of 2009, surely stocks are set to fall and we could be looking at a recession in the near future. Do we care? Not really. Those market slumps are all part of the framework built into our investing strategy…in theory at least.
Did you notice my uncertainty there? The math definitely works, but seeing the market tumble, even for the short-term, is a real psychological test of any long-term investor. Last week’s market drop cut thousands of dollars from our net worth in two days. Holy sheet! Why would anyone invest in the stock market?!
As Jim Collins is apt to claim, the market always goes up. When the market tanked last week, as it has in our investing past and as it surely will in our investing future, we took action. We did not sell our stocks and realize a loss, we tossed more money at the market!
Market Timing and Emergency Funds
We participate in a practice known as dollar-cost averaging, where we have a “set-it-and-forget-it” automatic deposit each month to our primary stock index fund, VTSAX. While this method is a great way to constantly be injecting money into the market while spreading your risk across a long period of time (and therefore different price points and market conditions), it mathematically has been shown to be a less fruitful investing strategy than lump sum investing — tossing a bunch of money in the market at once.
That being said, the typical investor doesn’t have thousands of dollars lying around to invest at any given point, so it’s prudent to invest what you can when you can. As we make income at our jobs, we invest our savings each month. However, when the market conditions are ripe for a deal, we throw whatever we have lying around into the hopper.
“What do you mean, whatever you have lying around?”
We don’t want you to think that we are timing the market per say. We’ve been tossing around the idea that we may not need as much liquid “cash” in our traditional emergency funds, because we’ve frankly built one giant emergency fund with our investments.
Plus, we spend nearly every dollar on rewards credit cards, so there’s really no emergency situation that would require immediate cash. So why keep around much cash at all? The timing was right: Coincident with our discussions on having too much handy cash came this stark market drop, so we took advantage of the sale.
The Sale
For the sake of example, my grandmother — a Depression-Era frugal magician — would buy out the entire store inventory if milk was being offered at a 30% discount. We consider market drops to be that sweet milk deal, without the potential consequences of an irritable bowel or the need for an additional freezer.
You see, when the market tumbled last week, we were seeing share prices not seen since July. We were essentially able to travel back in time to the salad days of summer and buy stocks again for the same prices, instead of the inflated early October prices.
But will the market continue to fall? We don’t know, and you don’t either. But what I do know is that at some point in the future, whether it’s Tuesday or three years from now, we will realize a nice gain on the investment we made on Friday. Had we gotten puckered and feared total loss of our investments and sold some or all of our stocks, our “losses” on paper would be official, that money gone. But by waiting it out and capitalizing on the momentary sale, there is a brighter future, whenever that may come.
The Psychology
I’d be remiss if I didn’t note that the red on my stock ticker last week wasn’t alarming to some degree. No one wants to see the value of their money being eroded by any magnitude, and it’s never comforting to see article after article proclaiming “instability“, and a “rocky forecast“, or “trouble lurking“. After all, we have been diligently saving and investing with a target in sight, and every market drop is a potential delay to our timeline.
However, so long as we have income and a means to invest, every market drop is a sale, and who doesn’t love a sale? People lose money in the stock market when they lose sight of the big picture.
In fact, an apparently real but hilarious study pointed out that the best investors are in fact deceased. When you’re dead, you can’t play the market, you can’t freak out and sell, well…you can’t do anything but be fertilizer. Despite everything I wrote above about capitalizing on a sale, there’s something magical about the passive approach of set-it-and-forget-it investing and trust in the power of the long-term market.
Was I wrong to be tracking the market performance and reading articles real-time? Yes, I absolutely was. It’s a dangerous habit and the primary reason folks take incorrect courses of action. Market instability is guaranteed, and obsessing over it only increases your risk of actually losing money.
Taking Action: When Should I Start Investing?
So when is the best time to start investing? Well, the best time would have been 30, 40, or 100 years ago — frankly any time in the past. Can you imagine the returns you’d have had you invested even a single dollar in the wake of the Great Depression and forgotten about it? Despite all those scary events later in history — Black Monday, the Tech Bubble, the housing collapse and financial meltdown resulting in the Great Recession — you would be sitting pretty now.
The second-best time to invest? Now. No one knows where the market will go from here, but history has shown that it will go up. Be like the dead guy and let the power of the market work for you.
If you want much more detail on our investing strategy, check out this and this.
What’s your investing strategy? Have you always considered the stock market to be a risky proposition for those that like to gamble with money? Are you interested to start investing for the first time but are concerned about entering at the top of the market? Or are you an investing veteran who has learned some good hard lessons along the way? Tell us your story, or your fears of getting of started!