Headlines in financial magazines and even mainstream news outlets have had resounding redundancy over much of the past four-plus years. Repeatedly, we’ve read: “U.S. stocks are at an all-time high. Here is what you need to do now.”
More than 175 days since April 2012 — when the U.S. stock market reclaimed its high after the 2008-09 financial crisis — have featured new “all-time highs.”
In most cases, what you need to do now is to monitor the stock weight of your portfolio. If it remains aligned with your goals and risk tolerance, then do nothing and keep adding new savings to stocks if you are still accumulating retirement funds.
All-time highs should not be feared. Of course, bear markets can start from all-time high points. But that does not mean that each all-time high must lead to a bear market. Rather, most people should weigh two fears when making decisions at all-time highs — the fear of missing out vs. fear of experiencing a decline. A couple axioms apply here: “if you think market prices are high now, just wait five years” and “it’s time in the market, not timing the market that makes a successful investor.”
Using the S&P 500 Index to represent U.S. stocks, we know that about 8 percent of the time the market has traded at an all-time high. More often than not (79 percent of historical precedent), the S&P 500 is higher a year after an all-time high mark, and by close to 13 percent on average. Keep stretching time and returns remain positive three and five years after all-time high points better than 80 percent of the time.
Surely, stock prices decline, sometimes excruciatingly so. However, the public market mechanism has replaced old highs with new highs, though with an unpredictable range of time passing in between. Historically, because of this succession of stock market gains, you have not needed to invest in U.S. stocks only at low points to generate real wealth. You could even continually have terrible timing, moving money into U.S. stocks only at the all-time high points and still see your balance grow over time.
HISTORY FAVORS THE PATIENT
If you have disposable cash to invest and a long horizon for the money, now is a good time to invest regardless of how close the U.S. stock market is to trading at a high. Recent Vanguard research confirms the precedent for better results by investing a lump sum at once as compared to investing incrementally — or “dollar cost averaging” — over time. Certainly, it’s beneficial to invest when stock markets are dipping to periodic lows, but it has not been a requirement to make money — more money, sure, but it’s not the only path to financial security.
When evaluating investment opportunities, the current price is not the only important factor. It’s helpful to understand value, especially in relation to other investment options. There is seemingly an endless supply of reasons to question future value of markets. This is called the crisis du jour. But when you try to time entry and exit points to and from your investments around the perception of the market being risk on or risk off, you’re more likely to do more damage to your returns than if you simply stuck with an investment strategy meant to align with your goals over time.
OVERCOME HUMAN NATURE
Of course, human nature and common cognitive biases are powerful influences over decision-making and emotions about money. There is one easy way to lessen their potentially problematic effect on your psyche and financial security. Decide how much cash you need to fund expenses over the next few years and keep this money out of stocks regardless of the market’s current value. Your emotional roller coaster should have fewer ups and downs if you know your near-term expenses are covered.
If you are sensitive to investment declines even for long-term money, you may be wise to reduce the stock weight in your portfolio. But beware the pitfalls of seeking a better risk/return tradeoff in other places. Many portions of the bond markets are also riskier than you might expect. High-yield bonds, long-term bonds and emerging markets bonds have generated stock-like returns but don’t reduce your overall portfolio risk much at all compared with stocks. And even investment-grade bonds are challenged to generate positive returns in a rising interest rate environment.
While different types of investments may help manage risk in your portfolio, managing your own behavior when markets are at their greed and fear peaks and valleys may be even more meaningful risk management. You’ll become a more successful investor when you focus on long-term probabilities, not short-term outcomes.
Gary Brooks is a certified financial planner and the president of Brooks, Hughes & Jones, a registered investment adviser in Gig Harbor. Reach him at firstname.lastname@example.org.