{"id":5080,"date":"2015-04-06T16:53:48","date_gmt":"2015-04-06T23:53:48","guid":{"rendered":"http:\/\/canary.kcprod.info/blog\/?p=5080"},"modified":"2022-01-11T17:12:35","modified_gmt":"2022-01-12T01:12:35","slug":"keep-investing-even-while-down","status":"publish","type":"post","link":"https:\/\/canary.kcprod.info/blog\/keep-investing-even-while-down\/","title":{"rendered":"Stay the Course, Even While You\u2019re Down"},"content":{"rendered":"

W<\/span>hen it comes to investing, doing the right thing is usually counter-intuitive. A prime example we\u2019ve written about before is how investing in down-markets can actually prove advantageous. This is because down markets give investors an opportunity to purchase more than they would be able to afford in an up market (See Invest Despite Volatility<\/a>). We\u2019ve also written about how individual investors find it difficult to invest rationally and tend to make mistakes by following their intuition, piling in while the market goes up and liquidating as the market goes down. This is otherwise known as timing the market. Burton Malkiel, our Chief Investment Officer views this as often being an investor\u2019s Most Serious Mistake<\/a>.<\/p>\n

But something we haven\u2019t quantified before is how much investors might actually suffer from engaging in this type of behavior. In this post we calculate how much investors can lose by reacting to market conditions \u2014 or equivalently, how much they can gain<\/em>  by staying the course.<\/p>\n

A Case of Two Portfolios<\/h2>\n

Specifically, we will compare returns for two hypothetical investors: Sandhya and Bob. They both start with $100,000 to invest, but invest their subsequent equivalent savings differently. Sandhya doesn\u2019t pay attention to the market and invests an additional $10,000 every quarter regardless of what the market does, while Bob has his eyes glued to his returns and invests an additional $10,000 only in quarters in which his total investment return to date is positive<\/em>. When Bob misses a quarterly deposit because his account is down, he keeps the cash in his checking account and invests only when his investment return is positive once again.<\/p>\n

We simulated returns for a Wealthfront taxable portfolio that replicates our average client\u2019s risk tolerance (risk score of 7 on a scale of 0 to 10). You can see the portfolio\u2019s investment mix below:<\/p>\n

\"TaxableInvestmentMix_RiskLevel_7\"<\/a><\/p>\n

We began the hypothetical portfolios in 2000 and simulated them using historic returns to the end of 2014, a period of 15 years. Over the fifteen-year period, Sandhya and Bob each invest a total of $690,000.<\/p>\n

The chart below shows the timing of deposits for each portfolio as compared to the performance of the S&P 500\u00ae.<\/p>\n

\"charts8\"<\/a><\/p>\n

As you can see, Sandhya\u2019s deposits are consistent each quarter, while Bob\u2019s deposits are erratic and follow the market (represented in the chart by the S&P 500). Bob skips incremental deposits entirely from mid 2000 through late 2004, and his deposits follow a similar cycle following the crash of 2008.<\/p>\n

In the graph below, Sandhya\u2019s regular deposits, despite the poor market conditions, begin to separate her portfolio value from Bob\u2019s within four years and from that point on the disparity grows larger.<\/p>\n

\"charts9\"<\/a><\/p>\n

Even with the severe downturn of 2008, which affects both portfolios, Sandhya\u2019s portfolio rebounds to a greater degree than Bob\u2019s and stays ahead throughout the remaining five years.<\/p>\n

Steady and Stubborn Wins the Race<\/h2>\n

By the end of 2014, Sandhya\u2019s account is worth $77,000 more than Bob\u2019s, despite having invested the same amount.<\/p>\n

\"Sandhya_Bob_Table_final\"<\/a><\/p>\n

 <\/p>\n

Sandhya\u2019s decision to ignore the market and consistently invest new savings regardless of performance allowed Sandhya to buy more with her money, which increased her overall investment performance by 0.60% per year. Through the magic of compounding, that extra 0.60% in annual investment performance is a big win \u2014 a $77,000 win, in fact \u2014 when compounded over 15 years.<\/p>\n

The lesson here is reminiscent of one made by Charley Ellis, well-known author, founder of Greenwich Associates and member of our advisory board in his post Too Much Liquidity Will Cost You Over the Long Run<\/a>. He makes the point that every investor can always come up with reasons to be optimistic or pessimistic about market conditions, but the truth is that the market cannot be predicted and that history has shown it is better to be in the market than out. As Charley writes, having your money in cash instead of invested for just 10 of the best market days between 1994 and 2013 would have wiped out nearly half of the total return from the S&P 500 over those 20 years.<\/p>\n

Stay the Course<\/h2>\n

DALBAR, an investment research firm that has been analyzing individual investor behavior for more than 20 years, has consistently found the average individual loses approximately 4% per year based on buying and selling at the wrong times. In its analysis DALBAR<\/a> found that individual investors tended not only to not<\/em> buy<\/em>  when the market was down, rather individual investors tended to sell<\/em> \u2014 which, is the absolutely worst thing they could do. Selling in down markets rather than not buying increases the aforementioned 0.60% annual deficit to a 4% incremental loss.<\/p>\n

It takes courage to continue investing independent of market conditions. And as we discussed in There\u2019s No Need to Fear Stock Market Corrections<\/a>, history shows that courage is often rewarded because it doesn\u2019t take that long for corrections to rebound \u2014 the mean time to recovery over the last 50 years has been only 107 days.<\/p>\n

Committing to or automating your deposit schedule is the best way to ensure that you avoid attempting to time the market or let your emotions or paralysis get in the way and stick to your long-term plan \u2014 you\u2019ll thank yourself one day.<\/p>\n

 <\/p>\n","protected":false},"excerpt":{"rendered":"

When it comes to investing, doing the right thing is usually counter-intuitive. A prime example we\u2019ve written about before is how investing in down-markets can actually prove advantageous. This is because down markets give investors an opportunity to purchase more than they would be able to afford in an up market (See Invest Despite Volatility). 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