EDITOR’S NOTE: Before we get to today’s Liberty Through Wealth article, Alexander Green recorded a short video message for you to watch.
(Hint: It’s a special invitation for you to join us at the 26th Annual Investment U Conference!)
– Nicole Labra, Senior Managing Editor
Over the course of the last few columns, I’ve shared my thoughts on the chances of a near-term stock market crash (low), as well as how to prepare for one anyway (make your asset allocation more conservative).
Today I’d like to talk about a related topic: why corrections, bear markets and outright crashes are your best friend.
That may seem like an odd remark.
After all, dramatic market sell-offs can be terrifying.
And rightly so for people trading on margin or speculating with money they need in the short term. (Don’t do those things.)
Sudden downdrafts are generally caused by unexpected events. And no one can say with any certainty how long stocks will take to recover.
Yet down markets are still your ally if you know how to deal with them.
Let’s start with the basic facts…
Bull and bear markets are as normal as the changing of the seasons. But their arrival and duration are a lot less predictable.
The reason a diversified portfolio of stocks has outperformed every other asset class – including real estate, precious metals, bonds and cash – for the past 200 years is… volatility.
If you could earn double-digit returns in an investment whose value didn’t fluctuate – as you could briefly in the early ’80s – no one would bother with stocks.
But you can’t. So most people own equities to generate the higher returns they need to meet their most important investment goals.
Volatility – which will forever be your inseparable companion with stocks – is simply the price of admission.
The rub, of course, is that investors don’t like volatility.
That’s mostly because they tend to become emotional and do the wrong thing. Like panic and sell. Or freeze up and do nothing.
Those are not good strategies. (Although I’ll admit that the former is worse than the latter.)
Why do folks become so anxious?
Generally, it’s because a) we’re talking about real money here and b) whatever caused the sell-off was unexpected.
Think 9/11… or the global financial crisis… or the COVID-19 pandemic.
Investors didn’t see these events coming. So many believed it would be a good idea to get out of the market and get back in later when things look better.
You know, like they always do at the bottom.
Even though the U.S. stock market has recovered from every sell-off for the last 200 years, people convince themselves that this time it’s different.
During the financial crisis in 2008, Warren Buffett wrote an op-ed piece in The New York Times, encouraging investors to step up and capitalize on low share prices.
But he added a caveat…
Let me be clear on one point: I can’t predict the short-term movements of the stock market. I haven’t the faintest idea as to whether stocks will be higher or lower a month or a year from now. What is likely, however, is that the market will move higher, perhaps substantially so, well before either sentiment or the economy turns up. So if you wait for the robins, spring will be over.
There – in one short paragraph – is how great investors think.
They don’t waste time fretting about how low the market may go. They don’t worry about how long it will take to recover.
They see a big opportunity and they act. Because they don’t want to get caught stealing in slow motion.
But let’s play a game of “what if.”
What if the 2008 financial crisis and recovery never happened.
Imagine that – instead of the V-shape it made during this period – the market just flatlined for several years.
What would have been the result?
Well, you might have had fewer sleepless nights. You probably would have had fewer conversations with your financial advisor.
But – and this is key – you also wouldn’t have had a multiyear opportunity to buy great companies while they were really cheap.
And that’s the point: Not acting on opportunities is the same as not having any.
So make a commitment to yourself – before the next downturn – to treat low stock prices as a gift.
As J.P. Morgan – the actual J.P. Morgan – famously put it, “You can’t pick cherries with your back to the tree.”
Corrections, bear markets and crashes are the best opportunities for those with a bit of nerve, patience and perspective.
It might not feel like it at the time. But – with the luxury of hindsight – nothing will look more obvious.