When markets fall, as they have in recent weeks, investors often question whether it makes sense to invest.
When your portfolio temporarily loses value, it can be very tempting to try to minimize your losses by stopping your investment plan or your recurring contributions to your investment account (or even canceling your investment account).
What happens, and this may be counterintuitive to most, is that in a bear market environment, what seems better is actually worse .
Table of Contents
What market situation do we prefer?
Stop for a moment and ask yourself: Which chart do you prefer?
We can probably handle the step-by-step market as well.
What seems best is the worst
The market rewards risk
Let us remember that the market rewards risk.
Don't be carried away by the fear of loss
Markets have a natural upward trend.
Remember, if you are investing for the long term you don't need to sell.
Appendix: A real example in “the lost decade”
Does this mean that an investor who had stuck to his plan and invested regularly would have gone bankrupt during this period?
What market situation do we prefer?
If we take a moment to reflect, we will understand why it is chinese overseas europe phone number data important (and even beneficial) to continue investing despite being in a bearish (or volatile) environment.
We have simulated three scenarios that could occur in, say, fifteen years. In all three scenarios we invest €1,000 annually in a portfolio of index funds or ETFs.
We have defined the three scenarios as:
Bullish : continued rises in the stock markets
Stepped : the market is going up but has corrections
Bearish : The market has ten years of market declines to recover at the end
Stop for a moment and ask yourself: Which chart do you prefer?
To help you out, in the graph above, we have changed the colors to see if we can influence you…
Although in this version of the chart the bull market is greyed out, we are sure that for most people this would be your choice, right?
Certainly, from a psychological point of view it is the easiest to bear. Why?
Because we see how, period after period, our investment is growing continuously and there are no market crashes or shocks throughout the entire period. It is the ideal world for our minds.
We can probably handle the step-by-step market as well.
The step market is similar to what happens in real markets. Markets go up after rises, and these fall after fall, with more or less regularity.
In reality, there may be sharp market declines, but in this case the corrections are mild. If we educate our minds at least a little, we will probably be able to continue with our investment plan.
The one that seems very difficult to bear, without a doubt, is the one we have called the bear market. Is it easy to endure 10 years of falls?
What seems best is the worst
In the following table we will demonstrate that in reality it is quite the opposite.
In other words, what is psychologically easier to bear turns out to be the worst option from the point of view of the final performance of our investments.
Final performance of portfolios in market downturns
If we look at the chart above, we see that from a numerical point of view, the worst (bear market) is clearly the best, and we accumulate the maximum, €83,300.
On the other hand, what is easier to bear, what we have called the bull market, is the worst from the profitability point of view, since we only accumulated €31,553.
The scenario we have called in steps would be an intermediate case in which we obtain €35,046.
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The market rewards risk
In the following graph we see exactly the same drawing if we represent the APRs of the three different scenarios.
types of market crashes
The bullish scenario has the worst APR at 10%. The step market has a slightly better APR at 11%. The market we have labelled as bearish has the clearest APR at 22%.
Why does this happen? If we look at the table above, we can clearly see why. The more the market falls, the more shares we accumulate with our 1000 euros.
In the first case, in round numbers, we accumulate 78 shares of our imaginary basket, in the second 87 shares and in the third many more, 208 shares.
Since all three scenarios end up at the same point, in both the step and bearish scenarios we have accumulated more shares, which in the end are more valuable.
Let us remember that the market rewards risk.
There are even strategies that involve investing more money when the market is lower.
Don't be carried away by the fear of loss
We have already discussed on other occasions that our brain is not prepared to withstand losses and that the fear of losing does not let us win , since we are much more sensitive to losses than to gains, and that makes us make inconsistent decisions.
What this example shows is that temporary losses become less important over the long term; a volatile or falling market can actually be better for investors, because it gives them the opportunity to buy at a discount. It is curious that buying at a discount is something we easily understand in other types of purchases such as clothes, appliances… even when we think about buying a flat. But we have a hard time understanding the concept of a “bargain” when we buy financial assets. It should be easier to understand when we buy the best indices in the world (our portfolios are made up of the best indices in the world).
We are not recommending, on the other hand, to wait for market declines to invest: it is impossible to guess the best time to enter or exit the markets.
The lesson is that you should try to ignore the short-term noise of the market, especially if you intend to invest consistently and are investing for the medium or long term (the ideal and most recommended situation).
Markets have a natural upward trend.
Therefore, if your investment horizon is quite long (at least 3 to 5 years), what happens in the short term does not matter.
We realize this is easier said than done. Losing money causes uncertainty and discomfort, even if it's only for a few months. In fact, even the most experienced of investors suffers from it. But it's important to remember that volatility and market declines are normal in investing, and you don't actually lose money unless you sell your investments.
Remember, if you are investing for the long term you don't need to sell.
History shows that markets tend to go up over the long term. That means that if you stick to your recurring investment plan and keep investing, history and statistics indicate that you will most likely come out ahead.
