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Investing in stocks is an inherently risky endeavor over a short time horizon. However, over a longer period, stocks tend to outperform less volatile asset classes such as bonds and cash. Whether you are Millennial, GenY, or about to enter a multi-decade retirement, investors seeking to maximize the money available to them in 30 or more years should embrace stock market volatility with the understanding that exposing the portfolio to price fluctuation is the key to accomplishing their long-term financial goals.
Previously I’ve written about the investing mistake of maintaining too much of a focus on risk aversion. My goal here isn’t to repeat what was already written but simply to highlight a few important charts and provide an additional video to help emphasize the point.
First, the video.
If you have 6 minutes and 30 seconds to kill and you want to hear my voice, we put together this video called Embracing Volatility on the importance embracing equity volatility for your long term financial goals. We will be playing around formatting and structure going forward so if you have any comments or recommendations, please shoot me an email and let me know.
Second, if you hate videos or just want the most important points, I’ve highlighted two slides below.
This is a chart explaining that it isn’t a matter of “if” but “when” the next stock market drop will occur. In any given year, we would anticipate three drops of 5% or more and one drop of 10% or more. We would also anticipate a drop of 15% or more to occur once every two years and a drop of 20% or more to occur once every 3.5 years.
The goal of this chart is not to scare you into exiting in the market simply because we are “due for a correction.” The markets can keep going up for long periods of time despite historical averages. My goal is to show you that market timing isn’t important to achieving very strong long-term returns. Despite frequent, and occasionally large, corrections in the stock market since 1900, the S&P 500 has averaged 9.7% annual returns.
Next is a chart looking at short-term volatility from a long-term perspective.
Black Monday was the single worst day in stock market history. 30-years ago, in one trading session, the Dow Jones Industrial Average fell 22.61% from 2,246.74 to 1,738.74. However, whether you bought on the day before or the day after Black Monday wasn’t materially important to your long-term investing success. What was important was that you continued to hold on for 30 years and rode the market higher to today’s levels of roughly 21,000.
To put this is forward looking context, for your long-term investment dollars, it doesn’t matter if you invest when the stock market is at 21,000 or wait for a pullback. What matters is that if the market grows by an average of 7% / year, in 10-years time the same index will be around 40,000, in 20 years it will be near 80,000, and in 30-years it will be approaching 160,000.
The only secret to long-term success is embracing volatility. In fact, if the stock market were less volatile, we would expect lower, bond-like returns, over the long-term. If you take one thing away from this post it should be this: Worry less about trading and market timing and focus almost entirely on your allocation and long-term strategy.
Want to learn more? Download a free eBook with Financial Planning Tips for Young Professionals