The problem for us humans, is that we’re hardwired to react strongly to negative signals. When we invest, if we see the value of our investments dropping, a loss is a very amplified emotion. We are far less emotional about a win, than we are a loss.
Share markets are a price-setting machine. They are the place that buyers gather, to acquire from sellers, assets that will make the buyer or seller wealthier (or that’s the plan).
Often investors forget that when share markets are falling, someone is still buying. It’s the last trade which resets the lower price. Some investors are momentum followers and as Mother Nature instils in us a fear of loss, we’d rather move with the crowd and also sell. There is no "fight" – the only logical reaction is "flight"! As long as everyone is a loser – we’re less of a loser.
Looking now at market values, we’re a long way from the last big slump. We’re almost 10 years from the ASX’s all-time high, which incidently was followed by the Global Financial Crisis. So, should we be worried? Is the next BIG fall, moments away? Who knows – but I can tell you, worry is a wasted emotion and price weakness in a quality business is an opportunity to buy.
Australia’s economy has had a boom of 25 years, yet on average “recessions” are supposed to happen every 7 years. Our Aussie mates are about 18 years late for a nasty market event. So, what to do? We’ll, we could make the same agreement about NZ's Alpine Fault. It’s also overdue for a large release - so we should all move to Australia, right?
Most days, someone somewhere is predicting a crash. Eventually they will be ‘right’. Yet still $10,000 invested in 1986 became $150,000 by 2016, despite all of the stuff that 30 years of the worst (and best) of the economy and geopolitics could throw at it (the ‘87 stock market crash, two wars in Iraq and one in Afghanistan, the collapse of the Asian share markets, Russia defaulted on its debts, the dot.com boom and bust, large-scale terrorism in the US, UK and Bali, and, yes, the GFC). The average return from Australia was 9.6% p.a, a 15-fold return on investment through holding the index.
With hindsight, we know precisely when to enter and exit the market but at the time, no-one knows. One of the world’s great investors, American Fund Manager, Peter Lynch, captured the idea nicely: “It’s a great feeling to be caught with your pants up.” In other words, being fully invested means you get the benefit of the gains, when they come.
In a perfect world, we’d invest when the market was going to go up, and sell when it was about to go down. This isn’t a perfect world, so we do the next best thing: invest anyway, and stay invested. BUT, don’t invest capital in the share market (or anywhere else) if you need that money back in the next 3 to 5 years. Market slumps do happen and you don’t want to be forced to sell an investment at the wrong time.
In summary, history shows the share market has wonderful, diversified, wealth-building potential, but from time to time, it will smash results into little pieces. Investors need to take care to invest prudently and ideally with a strategy designed to build wealth around their particular circumstances. This is where a qualified and professional financial adviser can help. Having a tailored approach to your Portfolio Construction will make a difference, so do get good advice.
Tony Munro CFP AFA
The views and opinions expressed in this article are intended to be of a general nature and do not constitute personalised advice for an individual client.
A disclosure statement is available on request and free of charge.