Any time someone has a lump sum they need to invest in the stock market I get the same question: Is now a good time to invest?
People rarely elaborate on what they mean by “good time” to invest, but I know what they are asking. They want a market timing call, some prediction as to whether the market will go up or down over the next period of time. And behind this question is yet another question that gets down to our most basic human emotions: “Is this going to hurt?”
Fear and regret avoidance can cause many people to sit on the sidelines when they really should be invested in the stock market to fund their goals. Fortunately, there are ways to mitigate these emotions and embrace the uncertainty of investing to make sure investors act in a way that will put them on track to achieve their long-term financial goals.
Is the market going to go up?
When people ask if now is a good time to invest, they really want to know if the stock market is going to go up or down over the next period of time.
This is inherently unpredictable. Whether the market goes up or down over the next year is essentially a coin flip. But over longer periods of time there’s a high likelihood that the market will be higher than when you first invested.
*Disclaimer: Chart compliments of Dimensional Fund Advisors. Past performance is not an indication of future results.
When I talk to investors who have at least ten years to invest, I always make sure to focus their attention on the longer time periods in the chart above. It provides a sort of light at the end of the tunnel amongst short-term unpredictability, and I find them more confident to invest now or remain invested if they are already.
Is this going to hurt? Am I going to regret this?
There will be times in any stock investor’s career where they will have to experience the emotional turmoil of seeing 30% (the average peak-to-trough decline during a bear market) of their money seemingly disappear. Naturally, anyone about to invest a lump sum would worry one of these will occur right after they invest.
Temporary declines occur regularly, but there is no way to predict when they will happen in advance. It is likely investors will live through several in their lifetimes and need to accept and possibly even embrace this fact. It is this unpredictability of returns that creates the higher expected returns of stocks that many people need to achieve their goals.
Investors only regret a temporary decline if they get caught up in the emotional turmoil of the time, panic, and sell their investments. Those who remain invested are eventually treated to a recovery and life goes on.
Younger investors who are still contributing to their investment accounts actually benefit from a temporary decline as it allows them to continue their same buying at lower prices.
Act on a plan to avoid emotion.
The emotions and uncertainty of investing can keep people who need to be invested to fund their goals on the sidelines.
Acting on a plan can take a lot of the emotional baggage out of investing money that needs to be invested. A plan makes the decision a straightforward matter of what is best to fund the plan.
A good financial plan will take into consideration the possibility of all different stock returns and make sure it is adequately funded even if a person catches bad timing. It will consider the possibility of temporary declines like 2008 or worse.
Read more: What Does a Financial Planner Do?
Knowing that a financial plan accounts for the uncertainty of stock markets and will still be on track to achieve their goals makes it much easier to override those concerns in order to do what is best for their financial future.
Dollar cost average to ease emotion of regret.
If investing a large lump sum all at once is simply too much to stomach emotionally, investing it in small pieces over time, or “dollar cost averaging” as it is called in the investment industry, is a great way to ease the emotion of regret.
This is one situation where what is mathematically optimal can differ from what works for a person emotionally. Since the market goes up most of the time, it is mathematically optimal to put any money that needs to be invested in the stock market immediately. But some people can’t handle that and will want to invest the money in small chunks over time to avoid regret if the market tanks.
These are not mutually exclusive options; sometimes the best route is something in between. We often meet halfway between the numbers and emotions by investing half now, and dollar cost averaging in the rest.
Don’t let the fear of striking out keep you from playing the game.
Investing money in the great companies of the world and keeping it invested in spite of the uncertainty involved can be a challenge for many people emotionally, to say the least. In the worst cases, these emotions keep people on the sidelines and cause them to miss out on the returns they need to fund their most important financial goals. By keeping a long-term perspective on stock returns and acting on a plan, investors can remove a lot of the emotions involved in investing and set themselves up for financial success.
Daniel Ruedi, CFP®, RICP® is a financial advisor at Ruedi Wealth Management in Plano, Texas.
Other Blog Posts Written By Daniel Ruedi, RICP®