Should we even bother with stocks? Those of us who became of the market during the dot-com boom and bust came away with two conflicting notions: that stocks are a great way to make a lot of money, and also completely unreliable.
The action lately has really reinforced the latter feeling. After Wednesday's mauling the S&P 500 is right back down to 1997 levels. If you put your money in an S&P 500 index fund, probably the most recommended way to invest in equities, 11 years ago and let it sit there, your only gains would have come from dividends. Treasury bills would have given you a similar return over the same time period, but with less risk.
Of course, most people don’t just plop down a big lump sum and let it sit there, and most people our age don’t even have anything like a big lump of cash to do that with, so this example doesn’t capture just how awful your returns from that S&P 500 index fund would actually be. If you contribute to a 401(k) plan, you’re probably making automatic contributions either once a month or every time you collect a paycheck. Let’s say you did that for the last 11 years. In that case you made a series of small purchases with the S&P 500 at much higher than it is now. In fact, with the exception of the period between July of 2002 and April of 2003, you would have bought at higher levels every time you invested new money, often much higher levels.
Eventually the market will recover, and when that happens you’ll stop being in the red, but that doesn’t change the fact that you would’ve been better off keeping all those 401(k) contribution between July of 1997 and today in CDs or bonds and only moving your money into stocks at or near the bottom. Sure, we’re talking about a retirement account here, so that means you’ve got 30 to 40 years to let the market recover, but I think that line of argument is bogus. Losing money is still losing money, and just to remind the crowd that recommends purchasing stocks like this, the point of investing in equities is to make money.
So should we give up on stocks? Absolutely not. Forget all the studies showing that high quality stocks are the best performing asset class over any 20-year period. What this little thought exercise tells us is not that stocks don’t work, but that the way many of us buy them doesn’t work. Consistently investing the same amount of money in an S&P index fund or a mutual fund every two-weeks or every month is just bad timing.
You can do better even if you don’t put a lot of time or effort into investing. You don’t have to pick individual stocks, you don’t have to day trade, you can stick with that S&P 500 index fund, as long as you try to buy low and sell high. Yes, writing that made me cringe, but you have to believe the people who tell you the best way to invest is by making the same sized contribution to an index fund every month have lost sight of that core idea. They’re telling you to buy always and sell never, and the way most employers set up their 401(k) plans with automatic contributions, it’s almost inevitable that you’re also buying high and selling never, at least until you can’t take the pain anymore and sell when you should be buying.
You could’ve avoided what I’m going to call the S&P 500’s lost decade by holding off on when you buy, instead of throwing the same amount of money into stocks every month. You don’t even have to invest actively, you don’t even have to sell since you’re young and you’re in it for the long haul. You just have to buy at the right time.
There’s one big problem here: the vast majority of experts say it’s incredibly difficult or even impossible to time the market, so the chances of timing your investment in stocks so that you go all in near a bottom are pretty slim.
That’s okay, you’re timing doesn’t have to be anything close to perfect. Instead of making the same contribution every month, hold off on committing any capital until you get, say, a 10% decline, and then only put on half, or even a quarter of what you’ve saved up by not buying every month. You get another 10% decline, invest the rest. Your timing won’t be perfect, but at least you’ll be trying to buy low instead of thoughtlessly buying always.
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