If you waited until now, is it too late? For investors sitting on the sidelines, there's good news
By Jaime Briggs, REALTOR® www.BriggsOnHomes.com
Thanks to Rod Gibbings, Investors Group.
If you waited until now, is it too late?
For investors sitting on the sidelines, there’s good news
Global stock markets have surged dramatically since their lows in early 2009, with economic indicators improving and pointing to recovery. The question is, is it too late to get back in?
The answer is no. Are there perhaps better times than others to get in the markets? Probably. But if you’re trying to time your re-entry, according to Meir Statman, a professor of finance at Santa Clara University, frankly, as investors, we’re just not that good at it.
Statman says that as investors, typically, we make the mistake of investing at the wrong time. He highlighted that costly error in a Wall Street Journal article earlier this year, The Mistakes We Make – and Why We Make Them (August 24, 2009). He points to the fact that history appears to be repeating itself.
“February 2000 was a time of exuberance, and 78% of investors agreed that ‘now is a good time to invest,’ “ Statman wrote. The Toronto stock exchange peaked in February 2000, up 44% and then proceeded to lose ground in 2001 and 2002. “March 2003 was a time of fear, with markets off by 19%, and only 41% agreed that ‘now is a good time to invest’. It turned out to be a great time to invest. I would guess that few investors thought that March 2009, another time of great fear, was a good time to invest. So far, so wrong.” The S&P/TSX composite index was up more than 35% for the year (see fig. 1), in direct contrast to 2008 which was at the opposite end of the spectrum with greater than negative 30% returns.
Taking a look back
In March 2009, Canada’s equity markets sank to their lowest levels in five years, followed by a huge rebound of more than 50%. Wall Street fell to its lowest point in 12 years before rebounding more than 60%. The pattern repeated itself around the world.
But for many investors, the ride was one way only. They left the roller coaster during its gut-wrenching plunge, crystallized their losses, and then had no exposure to the recovery. Unfortunately, full of fear and anxiety, many investors exited the markets at one of the worst possible times to do so. It is very much human nature to extrapolate current events to the future, that is, to assume that things will continue along the same path they are currently on. A down market will stay down, an up market will continue rising. As investors, although it is in our nature to fear crises, by embracing them we can benefit from the opportunities they create.
Success is found not by trying to time market entry and exit points but rather by maintaining a long-term perspective and keeping an eye on the big picture.
History provides us with some good insights about the general nature and scope of markets and economies and how they move in cycles. The business or economic cycle is typically characterized by a series of stages that include: growth, decline, recession, and recovery. These stages basically reflect changes in the rate of economic activity as measured by key indicators like employment, prices, and production. Cycles are recurrent though they vary in frequency, magnitude and duration.
However, looking back, periods of economic expansion have seldom been short. In fact, according to the National Bureau of Economic Research (NBER) economic recoveries following on the heels of recessions have an average duration of close to 5 years. Post-1960, periods of economic expansion are even longer, at close to 6 years. (see fig. 2)
Further, a look back at over 80 years of data show that the average bear market lasted an average of 21 months with an average decline of -39% while the average bull market lasted an average of 51 months with an average increase of 151% -- so bull markets are not only stronger, but they last longer too.
In the words of Benjamin Graham – author of The Intelligent Investor, “In the short run, the market is a voting machine, but in the long run it is a weighing machine.” That is, in the short-term, there is a lot of emotional trading (the voting machine) that is reflected in the day to day price valuations of companies, but that in the long-term, it reflects value creation (the weighing machine).
What the stock market saw
As a leading indicator, the stock market focuses on what’s in front of it, not behind it, and saw the economy was not in as bad shape as was being reported, that capitalism was not in fact failing, and began its ascent. Interestingly, while the moves down were primarily emotional, the comeback has been largely built on fundamentals.
The principle that stock markets rise over the long term is still alive and well. It might have appeared briefly ill with the steepness of declines witnessed during the market downturn, but it’s been quickly nursed back to health by a powerful stock rally and improving economic fundamentals— and unless they get back into the market, investors can’t take advantage of the higher long-term potential offered by equities.
Some market watchers believe a resumption of corporate earnings growth, combined with a return of cash from the sidelines could be major catalysts for a continued stock market advance. They also point to other trends that could prove positive for equities. Key among them is an economic recovery, which is always good for share prices. Plus, there are market sectors that are now coming into their own after lagging in the returns race. Among them, growth stocks that are taking the leadership role from smaller-capitalization and mid-cap stocks that until recently dominated the market upswing.
This recession and attendant recovery have been consistent with past economic cycles. Leading indicators pointed to the end of the recession and the beginning of the recovery as in previous cycles. Sectors have been performing in keeping with the classic sector rotation model —with early cyclical sectors like technology, consumer discretionary, and financials outperforming coming off market lows.
But for sidelined investors, it’s not so much about where markets are likely to go or which sectors are likely to win. It’s still about psychology. And about fear.
The painful stock market tumble from mid-2008 through early 2009 severely altered the risk tolerance of many investors. Many remain extremely risk averse even in the wake of subsequent gains. They dwell on fears of another market downturn while succumbing to the risk of being out of the market during its better days.
What’s an investor to do?
So how can a worried, frightened investor get over the perhaps-irrational risk aversion that could be keeping him or her from reaping decent long-term returns from the stock market?
The key is understanding behaviour and how your own psychology can affect your investment decisions. Are you out of the market because you have a well-founded and well-researched belief the immediate future is gloomy, or because you’re anxious? Is your current investment position rational or emotional? Are you driven by logic or frozen by fear?
· Consider re-entering the market slowly. Invest a bit at a time through an automatic plan and dollar cost-averaging. This means you can take advantage of the current growth in the markets but offset some of the risks by controlling your exposure.
· Ensure your portfolio continues to meet your needs by aptly capturing your risk tolerance. Keep your portfolio balanced and you increase your opportunity for investment success, and at the same time smooth out the emotions of investing.
· Think long-term. Remember, focusing in on the day-to-day machinations of the market won’t get you where you want to go. Keep your eye on the horizon and don’t lose sight of your long-term goals. This is where the value of a well-constructed financial plan comes into the picture.
Because we’re inundated with information on a daily, even hourly basis, it’s easy to get caught up in the short term and forget that there is equilibrium in the equity markets. Over the longer term, investment performance tends to revert to the mean. As an example, since 1947, the average 30-year rolling return of the S&P/TSX is in excess of 10% compounded annually. So the long-term stock market advance never ends, it is only interrupted.
Five positive trends
Economic recoveries are always good for stock markets and for those investors looking to get back in – here are some trends worth considering:
· Earnings. Company earnings continue to exceed expectations, boding well for ongoing profitability and stock market returns.
· Company expansions. Data show that companies are expanding at their fastest pace in almost four years, signalling the economic recovery will continue in 2010. The ISM business barometer rose to 60, its highest level since January 2006. (Readings above 50 signal expansion).
· Manufacturing moving into recovery. Inventories are being rebuilt, which means product is moving and exports are also looking strong.
· Consumer confidence. The consumer confidence index is up, and has risen for two consecutive months, pointing to potential strength for retail sales.
· Interest rates. Low interest rates remain a key component of current monetary policy that will continue to provide a support for consumers and consumer spending.
Rod Gibbings, Senior Financial Consultant
Investors Group Financial Services Inc.
Region Office #4
Landmark IV #100 - 1628 Dickson Ave., Kelowna BC
Ph (250) 762-3329 ext 377 Fax (250) 868-9332