How to React - and NOT to React - to the Stock Market
Here’s a confession: I rarely check my investments. It’s not laziness. All of my accounts could easily be accessed anytime, anywhere with my smartphone. It’s not apathy. I am fully aware of the importance of these investments and how they will shape what my future looks like. It all boils down to one thing: fear. I tend to operate from a scarcity mindset. I wrestle with fear that losing money isn’t an isolated incident but a permanent reality. Investing can spark this mental firestorm, so it’s something I have to intentionally decide to do in spite of that. Luckily, I’ve established habits that spur the action. But in this case, fear actually serves me well. I use a set-it-and-forget-it investing strategy which prevents me from checking my accounts and making a change to my plan based on market fluctuations. Fear is the giant I don’t want to wake up, so I stick to logic instead. In an article for CNBC, Camelia M. Kuhen, Associate Professor of Finance at the University of North Carolina, explains why this works:
“People who are good at emotional regulation - in other words, overcoming their unease at going against the herd - tend to be better at investing. If you’re the kind of person who could go skydiving or who could talk yourself out of an action, like selling in a panic, you could be good at emotional regulation. You might say to yourself, ‘I know there is no day-to-day predictability in the market. I know this objectively, and even though I feel this sense of anxiety, what I saw in the market yesterday doesn’t mean I should sell.'”
If you haven’t been able to tackle the beast of investing, or if you need to up your investing game, you’ll need to cozy up to one key fact: the stock market is volatile. A booming market has an expiration date. A downturn has an expiration date. Markets will rebalance, which means money will be gained and money will be lost. The quicker you adjust to this reality, the easier it will be to release your money and see it grow. Here are a few tips to keep your investing strategy proactive instead of reactive.
Understand How Complex Economic Trends Are
Changes in the market never happen in a bubble. If a comment is made in an interview about a management shakeup at a major company, the stock price for that particular company could plummet. If news is released that the housing market is in an upswing, the market could skyrocket. Even small changes in seemingly unrelated industries can cause a shakeup. That might sound scary, but it doesn’t have to be. Market change is constant, and understanding the complexity of the situation can help you see the temporary nature of any upturn or downturn. In an interview with USNews, Lisa Kirchenbauer of Omega Wealth Management explains, “Right now, the market is more often moving up or down on short-term concerns, worries, and unsubstantiated optimism or hopes. For most consumers, they need to...stay long-term and strategically focused on their goals and portfolio that will get them there with the least volatility.” Instead of creating an investing strategy based on whatever new financial news story pops up, follow these tried and true methods instead:
Use Dollar Cost Averaging to Your Advantage
The first time I began contributing to a retirement account, I resented the smaller paycheck. Working at an employer with a required union membership took certain choices off the table, so I begrudgingly accepted 401k contributions as part of the deal. Every month a certain amount was deposited on my behalf. A few years older and financially wiser, I actually opted in at my next employer, upping my contribution limits every year. Strangely enough, I actually began to enjoy talking returns and saving percentages. I didn’t know it at the time, but by making these regular monthly contributions, I was activating a key component to smart investing: dollar cost averaging. Let’s see how it works in a retirement account:
- You contribute a fixed dollar amount each month.
- When the market is down, your money buys more shares. When the market is up, your money buys less shares.
- Over time, the average price you pay per share is able to drop - despite market fluctuations.
If there’s one thing I know I don’t excel at, it’s timing the market. And there’s plenty of research showing I’m not alone. Luckily, dollar cost averaging negates the need to time the market and encourages investing at both high and low times. The bottom line? Commitment and consistency will give your money a better chance at growth.
Think Long-Term, Not Short-Term
I used to work at a public pension fund. If you don’t know how pensions work compared to, say, a 401k, here’s a quick synopsis: an employer contribution, plus the employer match, are pooled together, along with the contributions of all other pension fund participants. The pension fund invests all of the pooled money together (a massive sum), and gives every member a lifetime benefit upon retirement, based on an agreed-up calculation (years of service, average income, etc.). Because the promise of a lifetime benefit can be quite large, investment returns must be carefully monitored. So you can imagine the backlash if one year’s returns were low. We worked tirelessly to explain the importance of having a long-term outlook, but that often wouldn’t do anything to squelch the fears that would undoubtedly arise. An interesting graphic found in a white paper by Barclays explains it well. The market fluctuations observed in one year increments, and the returns that came with it, are extreme. They paint a very volatile picture. On the other hand, the line depicting the rolling returns over ten years is much more stable and almost entirely in the positive - save for the 2008 crash. Think of it like this: with a long-term outlook, you’re really looking at averages. A few bad years sprinkled into several good won’t obliterate your nest egg. By remembering this key fact, you can help keep one year’s returns, or one day’s massive market drop, in perspective.
Keep Your Emotions in Check
I’m a firm believer in listening to my gut. If a situation warrants an exit, I have no trouble looking for escape routes. Normally, these instincts serve me well. Except when it comes to investing. When money is being earned hand over fist, I’m tempted to lean into those gains and ride it out a little longer. When money is being lost, I want to take everything out and protect what’s remaining in a savings account. It might seem logical, but the numbers say otherwise:
In a study conducted by Brad M. Barber from University of California Davis and Terrance Odean from the University of California, Berkeley, over 66,000 households with broker accounts were asked about their returns from 1991 to 1996. Those who traded frequently, attempting to time the market, had average returns of 11.4%. The overall group average was 16.4% and the market returned 17.9%. The bottom line? Frequent trades actually meant less money on average.
Here are a few tips for removing emotion from your investing decisions:
1. Invest for the Right Reasons
If you’re investing to get rich quick, you will be much more prone to making emotional, irrational investing decisions. (Side note: that is never a good investing strategy anyway.)
2. Don’t Dive Into the Crowd Mentality
If you’re doing what everyone else is doing, chances are you’re doing it too late to reap the benefits. Remain level-headed and don’t follow the herd.
3. Don’t Always Believe What You Read
Information is everywhere. But just because something is posted online or splashed over social media, doesn’t mean you should take it as gospel. Before jumping on “advice” from just anyone, do your research to be able to decipher fact from fiction.
4. Know Your Mental Limits
Willpower is generally never the best strategy when it comes to anything related to finances. So if fear is an investing stumbling block for you - as it is for me - create a logical investing strategy that doesn’t require frequent check-ins or movement of your money.
Haven’t Started Investing Yet? Now is the Time.
If I didn’t land a job in the retirement industry early in my career, investing wouldn’t have been on my radar. I never felt equipped to take such an “advanced” financial step, and protecting my savings seemed to be more important. Now I proactively consume information related to growing my money and my net worth has seen the positive impacts. Don’t let intimidation keep you from taking the next step in your finances. From robo advisors to online resources, there are plenty of ways to streamline the investing process and gain the knowledge you need to grow your money. And the earlier you start, the larger the benefits you will see.