What goes down must come up

When your portfolio goes down, don’t panic, as every financial adviser will tell you, selling low is the worst thing you can do as you’re locking in losses and missing out on future gains. Stock markets work in opposition to gravity and when they fall it’s pretty much a certainty that at some point they’ll come back up and one day hit new highs.

Even Japanese investors who shoved their money into the Nikkei back in 1989 are now seeing a return on their investment, with the market finally reaching a new high yesterday.  Of course, 35 years is a long time in investing, and with over two-thirds of Japanese investors being over 50, chances are those investors haven’t lived to see that return, despite Japan’s average life expectancy of 84.

Japan is a huge outlier though and no other market has ever had to wait that long to surpass a previous high point. Even after the 1929 U.S. stock market crash, which triggered the Great Depression, share prices regained their pre-collapse highs in 25 years, and there was a world war to contend with during that time.

Statistics show that the average stock market crash lasts for just 342 days and the bull market that follows it tends to be much stronger and last much longer. The sensible thing to do in a downturn, therefore, is to take advantage of the lower prices as an opportunity to buy more. Successful investors accept that losses are a natural and temporary part of the ebb and flow of markets, that risk is the price we pay for future gains, and they welcome and capitalise on downturns when they come.

As Warren Buffett is renowned for saying: “One should be fearful when others are greedy and greedy when others are fearful. That is the secret of making money or getting rich,” and it would be fair to say that mantra has served him well.

Of course, for us mere mortals, practising such stoicism while haemorrhaging value is easier said than done. It’s counterintuitive and psychologically very difficult to buy when everybody else is selling, and this is compounded by the media endlessly catastrophising over the reasons the stock market is falling in the first place, whether recession, inflation, war, or an end to a period of rampant speculation that you failed to identify while piling in at the top of the market.

To counter this, investors have to block out the noise. Ignore the news and remember stock markets tend to run in advance of events as prices are based on future expectations and not on what is happening in the here and now. The bad news you are hearing in the moment has already been priced into the bear market you are experiencing, and the turning point will typically come when we still appear to be in the eye of the storm.

An analogy with gardening is often provided when detailing an approach to sensible investing. Plant a variety of seeds (diversify your portfolio); tend to your successful plants and weed regularly (back your winners and cull your losers); and when bad weather hits, remember it will pass (don’t sell everything in a downturn) even if your garden is Japanese!