Investing For the Long-Term
Posted Mar 2, 2020
The importance of patience
After concluding the worst week in the stock market since 2008, I feel like I need to write about a common question that I’m asked about. I’m often asked about what I think the market is going to do. There is a major misconception that people in the financial industry have some special insight into what the market is going to do. I understand where this misconception comes from because every time you turn on the news or pick up a magazine, there is someone talking about a coming recession, the 10 best funds for the coming year, or why “this time is different”.
The problem with subscribing to the belief that someone actually knows what is going to happen in the stock market is admitting that people can actually see the future. To be fair, analysts and economists can make educated guesses about what is going to happen, but at the end of the day, they are still just guessing (and they are usually wrong more than they are right). What’s not a guess though is that Wall Street makes money when people buy and sell stocks. There is a massive incentive for Wall Street and the financial media (which is funded by Wall Street advertising) to encourage trading and to sensationalize the next major “event.”
Our modern-day US economy since the turn of the century (1900) has endured 2 World Wars, the Korean War, Vietnam, 3 wars in the Middle East, a Great Depression, a Great Recession, along with outbreaks, government shutdowns, and other countless show-stopping newsworthy events. Through it all, America and the rest of the world’s economies along with their respective stock markets have kept humming along as the greatest wealth-building mechanism in world history. Sure we have had momentary dips in the stock market due to short term crises, but the beauty of our economy and the stock market, in particular, is that it’s driven by the greatest companies in the world looking to deliver maximum shareholder value no matter the latest crisis.
This brings me to the idea of investing vs trading. As a financial advisor, I believe that one of my jobs is to help my clients invest correctly to meet their goals and this usually means taking an investment approach measured in decades not days, weeks or months. The only reason for a drastic shift in investments would be because of a shift in the underlying fundamentals of the market (think law changes) or a change in a client’s goals. Proper investing takes advantage of financial science and understanding how to properly build a portfolio to achieve optimal long-term results.
Trading focuses on trying to capitalize on movements (up or down) in the market and predicting what the market is going to do. The frequent trading can cause taxable events, trading costs, and have historically shown to deliver lower than market level returns. The problem with trading is that the trader doesn’t just have to be right once. They have to be right twice. They have to guess correctly on when to sell, but then they also have to correctly guess when to buy back in. This starts an on-going cycle of guesswork that according to every study out there leads to lower lifetime performance1.
So while I absolutely stay abreast of what’s happening in the world and what the markets are doing, I’m less concerned with the short term fluctuations in the market and more interested in what kind of law changes could potentially affect my client’s wealth long-term. Market volatility is something that we expect and want as investors. It’s what gives stocks higher lifetime returns than cash or bonds. Without this volatility and “risk”, stocks wouldn’t have a historical return of 10%. Volatility like this past week is a long-term investor’s friend but a short term traders nightmare.
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