The market today reminds me of Dickens’s famous line: “It was the best of times, it was the worst of times…” It’s the best of times, of course, because the stock market continues to hit new highs. From a low of 2,192 last March, the S&P 500 has now doubled, reaching 4,466 earlier today. Over the past ten years, the S&P has delivered average returns of 16.6% per year, including dividends—far above the historical average of 10%. Since the downturn in 2009, the market has logged just one negative year: In 2018, there was a modest, all-but-forgotten decline of 4.3%.
So why would anyone say that it’s also the worst of times? The worry, of course, is that things are too good. Investors have enjoyed seeing the numbers on their statements getting bigger in recent years, but it also feels like climbing a ladder: With every step higher, there is farther—potentially—to fall. And it’s not just the stock market. With interest rates near all-time lows, the potential for losses in the bond market has also grown.
As investors, we’re all taught to think long-term. Everyone understands that the market can be unpredictable and volatile from year to year, so we’re supposed to stay focused on the horizon, not the day-to-day. But there’s a difference between what we know we should do and what we’re actually capable of doing. While the overall results cited above have been very positive, it certainly hasn’t been a straight line. The pandemic has left millions still unemployed and has turned some industries upside down. The market is also displaying excesses—from cryptocurrencies to meme stocks—that make people nervous.
The result: Many investors are feeling skittish. This applies to those who are currently invested as well as those who have been on the sidelines, too nervous to put money into a market that appears to be priced for perfection, as the saying goes.
In an environment like this, what can you do? Below are some ideas:
- Remove emotion. What does this mean in practice? Whether you work with an advisor or not, I would draw up a formal investment policy statement. It need not be complicated; a single page will do. In this document, you can spell out your strategy, including asset allocation targets and rebalancing rules. Then try hard to adhere to it. This can be valuable in an environment like today’s, but it can be especially helpful when the market goes haywire. Consider, for example, what the market did last winter. Before the Fed stepped in, the market had dropped more than 30%—its quickest decline ever. The drop was terrifying, and no one knew when it would end. But investors who had asset allocation targets and rebalanced according to their plans benefitted greatly during the ensuing rebound.
- Remove judgment. The stock market is cruel. It can make the smartest person feel clumsy. Again, think back to last year. As Zoom took over people’s work lives, many predicted doom for commercial real estate. Others, meanwhile, worried about the election. And as the pandemic raged, many worried that we were headed for a prolonged economic downturn. One prominent hedge fund manager declared, “hell is coming.” Things turned out, of course, much better than anyone expected. As a result, the investor who fared best was the one who didn’t tinker too much. It’s counterintuitive, but unlike in other domains, there is only a loose connection between effort and results when it comes to managing one’s investments.
- Take it slow. If you have cash you’d like to invest but are hesitant to jump into the market, that’s understandable. Dollar-cost averaging is a common solution to this problem. Can you do better? Maybe. There are lots of variations on traditional dollar-cost averaging. There is, for example, value averaging. I often use a ratchet or a multiplier to accelerate purchases when the market drops. But ultimately, there’s no way to know, in advance, which will deliver the best result. The most important thing, in my view, is just to get started at a pace that you’ll be able to stick with.
- Take the long view. Jack Bogle, the late founder of the Vanguard Group, urged investors to think in terms of decades. That’s because the market is entirely unpredictable in the short term but at least a little bit predictable in the medium and long term. If the market is high today, for example, it might be even higher next year. But it stands to reason that prospective returns over the next decade will be lower following a dozen years in which returns were so far above average. What does this mean for you? If you’re in retirement, or retiring soon, you’ll want to build more conservatism into your plan. I wouldn’t count on 10% returns—the historical annual average—over the coming decade. But if you’re earlier in your career, it would defy math to conclude that an expensive market today necessarily means that returns will be below average for multiple decades into the future. Of course, you still want to consider that scenario in your plan. But it’s just one possible outcome. If you’re 30, 40 or even 50 years old today, I wouldn’t take an overly defensive posture just because the market seems high today.
- Consider history. Investment commentators love debating whether the market is headed higher or lower. But these debates usually aren’t productive. I’m not predicting that the market will go down, or that it will go up—in the near term. Instead, what I’m predicting is that over the long term, it will go higher. That’s where I find history instructive. If you went back to 1929, I’m sure there was a lot of hand wringing after the market had doubled over the prior two years. Similarly, there was plenty of investor angst in 2000 and in 2008. And, to be sure, those worries were vindicated—but only in the short run. In all of these cases, the market eventually bounced back and went much higher. I see it the same way today. Maybe the market is high, and maybe the next decade will be much less profitable. But that’s not guaranteed. And in any case, that tells you nothing about the subsequent decades after that.
- Have faith. In recent years, I’ve heard growing murmurs about America’s economy starting to crumble—that we’re headed into a period of malaise, like Japan, or that, in the extreme, we’re headed the way of the Romans. Are those things possible? I suppose. But I’ve also heard powerful arguments to the contrary. The 2019 book Fewer, Richer, Greener, for example, argues that we’re entering a period of unprecedented prosperity. I’m not sure which version of the future we will see, but again, I refer to history. As Warren Buffett noted in 2008, “In the 20th century, the United States endured two world wars and other traumatic and expensive military conflicts; the Depression; a dozen or so recessions and financial panics; oil shocks; a flu epidemic; and the resignation of a disgraced president.” We can now add to that list another pandemic. But just as before, I believe our economy—and our markets—will continue to prosper over the long term.