As markets continue to climb and set record highs, the alarm bells from many financial analysts continue to grow louder.
To be clear, these alarm bells have been sounding for nearly 10 years, and minus a few rough months along the way, it has pretty much been smooth sailing. Over the past five years, an investor in the S&P 500 has been rewarded with a ~124% return. Go back 10 years and the return is slightly over 300%!
You may be thinking, “Those returns are after the Great Recession, so of course they look good!” Well, a review of the past 20 years looks just as good, albeit with a few more bumps.
Does this somehow predict what the next 20 years will look like? Absolutely not, but it helps illustrate the effectiveness of markets over the long run.
In prior commentaries, I have stressed the importance of staying invested, focusing on the long term, and not allowing short-term volatility dictate your investment philosophy. In reality, the longer a time frame, the more you should embrace volatility since it presents an opportunity to buy at discounted prices.
While challenging at times, markets reward patience. As crazy as it sounds, doing nothing sometimes can be the most effective strategy.
Let’s take a closer look at the numbers….
Since 1928, the S&P 500 has yielded a positive annual return in 64 years (69%) vs. a negative return for the other 29 years (31%).
Now, a 31% chance of losing money in a given year can sound frightening. It is worth noting that in 10 of those 29 years, the annual declines were less than 10%.
Said another way, since 1928, the S&P 500 has experienced double-digit annual losses only 19 times (20%). On the flip side, 49 of the 64 (76%) positive years have resulted in double-digit annual gains!
These numbers may make you scratch your head and wonder why anyone sells when such promising returns can be had by just exhibiting patience. Well, this is where the hard part comes in.
While markets have been rocketing higher since 2018, the down months haven’t been friendly. Over the past four years, the S&P 500 has experienced several large monthly declines:
March 2020: -12.51%
February 2020: -8.41%
May 2019: -6.58%
December 2018: -9.18%
October 2018: -6.94%
Source: YCharts.
Declines of greater than 5% in a given month are scary and often trigger investor panic, which snowballs into more selling. From there, media headlines take over, and the experts come out of the woodwork to warn you on just how much worse things will get.
As I've stated before, it is best to ignore this. The experts are merely making guesses, albeit educated ones, on what they think will happen. These guesses are often wrong since markets have proven time and time again to be nearly impossible to predict, especially in the short term.
The truth is that over this same stretch, the S&P 500 has experienced positive monthly returns 75% of the time. Let that sink in: 36 of the last 48 months have yielded a positive return!
This fact helps illustrate just how often markets have increased, even as the headlines focus on the few large drawdowns.
It can be hard to accept that over your lifetime, you will experience several market corrections, some much scarier than others. While never enjoyable, they should not come as a surprise.
The best thing you can do to help prepare yourself is to consistently identify your risk tolerance and make sure it aligns with your investment portfolio. As your nest egg increases as you approach retirement, so does your potential annual gain or loss.
It is important to identify just how much risk you are willing to tolerate and adjust your portfolio accordingly along the way. This is something our Bethesda, MD fiduciary financial planning firm helps clients understand as part of our ongoing work with them.
Discuss your situation with a fee-only financial advisor.
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