When it comes to your money these days, it is hard to know what to do. Interest rates are 0.1% in the UK and 0% in the rest of Europe.
This has led many people to add more of their money to the stock market, or even invest this way for the first time.
It has meant taking on risk that they were not comfortable with. Many will have taken the DIY approach, with no adviser to guide them.Suddenly Covid-19 strikes, and stock market values have travelled back in time to 2015.
Many inexperienced investors are anxiously wondering what to do next.
We always spend a great deal of time talking about the “psychology of investing” and how markets work. To do otherwise is akin to buying a car, then “maybe” considering driving lessons, but taking it out for a spin anyway – and this is exactly what most investors do.
The problem for most individuals who lose money on the markets is not the markets at all, but their own worst enemy: themselves.
Human nature is “fight or flight”. When something looks bad, we run away from it and when something looks good, we run towards it.
The problem is that these instincts work badly for market investing.
The optimal time to enter the markets is when everyone else is selling and values are down. The best time to sell is when everyone is buying, and markets are high.
It is normal that markets correct, often sensationalised as “crashes” with a level of hysteria that causes panic, wiping billions or trillions off values. It is important that long-term investors remain calm during such turmoil.
It is vital that you do not do anything with your investments that causes you to lose sleep at night. Therefore, knowing that when markets do correct – as they are now and will do so again – you have time to wait out such volatility is key.
The statement “I lost money on the markets today” is either made by someone who failed to diversify, which is gambling, not investing, or does not really understand how markets work.
“Volatility” is not the same as “capital loss”. A “paper loss” (one where the loss is not realised) is not the same at all as a “real loss” (one in which assets have been sold, turning the loss into reality). To avoid a “real loss”, simply avoid selling when markets are low.
If you own shares in one company and it goes bankrupt, you have total capital loss. If you have 100 companies and a bankruptcy, you have lost 1%, so are experiencing volatility.
If you invest in 1,000 companies, the volatility is just 0.1%. We suggest around 10,000 and up to 20,000, viewing capital loss as unacceptable, when diversification is a simple solution.
Making money on the markets is not rocket science. If we cut it down to the simplest statement “buy cheap – sell expensive”, it seems absurdly obvious, yet this is not what many people do. Greed makes us buy when markets are high and sell when markets are falling.
If you have a well-diversified portfolio and a long-term outlook – at least five years, ideally eight or more – this is a blip, even as the global economy enters recession, defined as two quarters of negative growth.
Even a depression (not seen for 91 years), defined as a bear market of more than two years, is not the end of the world for long-term returns.
Patience for investors is not just useful, it is the key to success, as is the ability to stay the course.This does not mean accepting badly managed investments. It is vital to separate out markets falling versus funds falling.
Poor-performing actively managed funds clearly need to beweeded out, but not those offering returns in line with the markets in which they are invested.
To be a successful investor, you need to be able to accept market volatility, sleep at night and get on with life.
If you are still anxious, then consider when you expect to need to use money invested in the markets. If it is more than five years (certainly over eight), you can relax.
If it is much less than five, then you might draw just enough to cover those years, but no more than you need and, hopefully, enough to prevent anxiety, while minimising “real” losses. This is a poor fix and the result of a lack of financial planning, however. Living a miserable and anxious life is not worth it.
Money and financial health are important but we are in a crisis that demands we focus on something much more so: our physical health, and that of our families, friends, and neighbours.
I very much hope, however, that this article serves to reduce one anxiety you might have.
Keep safe and well.