No matter the sphere of life, it seems that it is our tendency as humans to meet every obstacle with the need to “do something”. I’ll admit that I am just as guilty as anyone else is when it comes to this reactionary behavior. The irony of this is that decisions made under stress are rarely the right ones. Typically, “just doing something” amounts to any action that makes us feel like we have control of the situation and are avoiding further harm/pain. Again, this is ironic because “doing something” in this scenario usually ends up causing us more harm than good.
This is an important concept for individuals to consider in regards to their investment accounts. Like any other stressful situation, watching the value of our investment accounts go down evokes an emotional response. In an effort to take control of their finances, many investors will forsake their financial plan and do literally anything that makes them feel better. Usually, this means taking their money out of the market at, quite literally, the worst possible time. This is what I often refer to as “The Big Mistake” which you can read more about here[i] (I didn’t come up with this phrase; it was coined by Carl Richards in his book, “The One-Page Financial Plan”).
When making, “The Big Mistake”, not only are you selling out of the market when prices are at a low, but you are also setting yourself up for a conundrum: When do I get back in the market? Investors have been grappling with and failing to answer this question for decades. Whether it be the Great Depression, the Great Recession of 2008-09, or even the COVID drop of 2020, investors have failed to successfully time the market. Why do investors so often fail at this task? Because it is incredibly difficult to pinpoint the perfect time to get in and out of the market. For example, according to a study[ii] done by Bank of America, if an investor had missed out on the 10 best days in the S&P 500 per decade going back to 1930, they would have only seen a total return of 28%. Compare that to a return of 17,715% if they had simply done nothing at all but ride the ups and downs. The fact remains that the market’s best days often follow the market’s biggest drops. If, in a frantic attempt to “do something”, you sell out of the market, there is a pretty good chance that you will miss out on the opportunity to make back much of your losses. Perhaps even the very next day! All of this said, there is at least one thing that you can do when the market drops and you are forced to see your account values tumble. That is, to do nothing at all.
It is a strange concept to think of “doing nothing” as an action but in this case it is likely the best action that you can possibly take. By sticking doggedly to your investment plan, you are likely saving yourself a lot more pain than a short-term market correction could ever cause you. Consider this example from the blog post I referenced earlier:
“Let’s say that you purchase your home for $250,000. The value of your home fluctuates over time based on what is going on in the market and the economy overall. Should the economy be in good shape, that home may now be worth $300,000 which means you could sell your home at a profit of $50,000 (of course that doesn’t take into consideration a mortgage if you have one but you get the idea). Now consider a situation where the market turns downward and now your home is only worth $190,000 which is $40,000 less than what you paid for it. Obviously, it doesn’t make much sense to sell your home in this situation even if you are afraid about what the market is doing.”
Giving up on your plan in a down market doesn’t actually fix the problem of your investments decreasing in value. No matter how much better it makes you feel to “do something”! When you think about your investments as an asset that appreciates over time but also suffers losses periodically, you are far less likely to make “The Big Mistake”. As we continue to navigate this period of market volatility and uncertainty, let’s all try to avoid the urge to “just do something”.
Today’s song of the week is an inspiration to all of us to simply “hold on” to our investment goals through the good and the bad. Enjoy!
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. All performance referenced is historical and is no guarantee of future results. All indices are unmanaged and may not be invested into directly.