Today I have a guest post by Chad Price, from Welcome to the Nerdery. He was actually one of the first people who emailed me with encouraging words – basically “keep up the good work!”. As a blogger, hearing something like that can make a huge difference. 🙂
When he asked me if he could write a guest post for Escaping to Freedom, I was quick to say “hell yeah!”, especially because he brings a new angle to my investing content with his ample experience.
Enjoy! – Ricard
What Clever Investors Do During a Stock Market Downturn
As a recent subscriber to Escaping to Freedom, I was immediately hooked on Ricard’s writing style and humor. Ricard was nice enough to allow me to expand on his post from November 15th, 2016: The only intelligent thing to do when the stock market collapses.
Here are two of Ricard’s best pieces of advice from that article:
1 – Longer term, I’m convinced that good companies will continue to perform well, even through wars and crises. That’s what data tells us – and being a trained engineer I can’t resist a bit of data!
2 – The second best piece of advice is not to panic at everything like most people do.
Take a look at the graph below, as it embodies these two phrases.
Notice how small the downturns look at the 2000-2003 Bear market and how small the downturn looks from the 2008 U.S. housing crisis?
I was running a trading floor during the Internet Bubble and I can promise you, it didn’t feel like a little blip on a long-term chart at the time. During the Housing Crisis, it really felt like the end of capitalism and that the world economy was going to collapse.
This is why I advise all my clients and the students I teach to have a plan. Have a plan and rules in place that are based on market history.
If you understand where the markets have been and how they have acted in times of crisis, you will be less emotional and more likely to ride out the storm. The key to building wealth in the Stock Market is by sitting tight. What I mean by this is, do not get scared out during bad times.
The Key is Patience
As Ricard reported after Trump was elected in 2016:
“The stock market is a device for transferring money from the impatient to the patient.” – Warren Buffett
When things look bad, a lot of people will expect the worst – they’ll think that the world as we know it is ending. However, data tells us otherwise.
Let’s look at a few examples from the Internet Bubble carnage and how these broad index ETF’s have recovered (as of 3/14/17) since:
- QQQ (Nasdaq 100 ETF) at its lowest point reached $23.54/share and even through the Housing Crisis has now appreciated to $131.68/share.
- SPY (S&P 500 ETF) at its lowest point reached $79.38/share and even through the Housing Crisis has now appreciated to $240.32/share.
- DIA (Dow Jones ETF) at its lowest point reached $74.31/share and even through the Housing Crisis has now appreciated to $211.59/share.
The other amazing thing is that even with these shares appreciating, it doesn’t even take into consideration the capital gains and reinvested dividends, which allow you to buy even more shares. This only accelerates your growth rates. Learn more about the importance of Dividend and Gains reinvesting here.
Now back to Ricard:
Everybody loves a good sale
Imagine that 50″ TV you’ve been keeping an eye on suddenly went on a -30% discount. Would that make you less likely to buy the TV?
Of course not! You’d probably even buy 2 or 3 – one for each room of the house.
Stocks are the same. When stock prices drop you’re getting the same chunk of the same company, at a lower price. Remember, the company is probably still operating as usual, making the same profits, regardless of how much its stock is worth.
I couldn’t agree more.
However, the irony is that the general public sells during these Fire sales. This is what is known as capitulation. Everyone running for the doors selling shares at any price.
This is the exact opposite of what you should be doing when the market is falling.
I know, you say great Chad, well how do I do that?
Simple: it’s called Dollar Cost Averaging.
So What Is Dollar Cost Averaging?
Dollar Cost Averaging (DCA) is an investment strategy for purchasing a fixed dollar amount of stock, shares of an ETF or fund on a regular, consistent schedule regardless of market action, i.e. going up or going down.
For best results, these scheduled investments should be set up as an automatic deposit, whether through payroll deduction at work for your retirement plan or as an automatic deduction from your bank account to any number of Investment accounts. Life is too busy to remember to do this every month and really, why let market or economic news determine if you should send it in?
Too many people try to wait for the news to be good or the market to turn around to invest.
Not you – you’ve already learned why this is a bad idea. Take the emotions out of investing, set up the automatic investment and live the life you want.
DCA effectively leads to more shares being purchased when their price is low and fewer when they are expensive. As a result, DCA can lower the total average cost per share of the investment, giving the investor a lower overall cost for the shares purchased over time.
We don’t know anything…and that’s OK
Well, at least that’s the only intelligent thing to do when the stock market collapses: Buy cheap, be patient, give it time, and you’ll be alright.
I can promise you this: if you continue to invest even – and especially – when the market is “bad” and you Dollar Cost Average, you will not believe how much you can accumulate over time.
If you’re interested in learning more easy-to-use, step by step strategies on investing for the long-term, please feel free to sign up for my Free E-course here.
Finally, I want to thank Ricard for the opportunity to join his great blog and readers. I hope I’ve been able to add to his advice and that all of you remember to stay invested. Time is on your side.
Until next time, be the smartest investor in the room!
Chad – Welcome to the Nerdery