The time to sell is not when stocks are down. Yet the principle is so much easier to embrace during rising markets than in the midst of chaotic selling, which causes our flight instinct to kick in.
Resist the urge. Money is made at turning points and the crowd is rarely right at critical moments. Why? Because 50% to 90% of daily volume is driven by the trading algorithms, not by human investors with long-term time horizons.
Consider lemmings, small rodents who migrate in large groups when their population density becomes excessive. The lemming’s instinct is to run with the crowd, even at its own peril — even to its death.
Lemmings are often compared to investors chasing what just worked. Think analysts upgrading Apple at $320 (lemming) compared with selling Apple in a regular and disciplined fashion as it continued to hit new highs (not lemming).
Stock market high
Going against the crowd is difficult. But it is critical to creating wealth. Don’t succumb to the hysteria.
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The lemmings running for the exits this past week may seem to know something the average investor doesn’t know. But I would argue that the indiscriminate stampede out the door, led by computer trading programs, parallels nature more closely than excellent investing principles. And though sometimes painful, sound investing principles are always in vogue.
Since the market closed on February 19th at a record high of 3,386.15 for the Standard & Poor’s 500, stocks have sold off quickly and dramatically by 13%. Preparing for a sell-off was the theme of my Feb. 23 column “Here’s what smart investors do with their 401(k)s when the stock market is hitting highs.” (Full disclosure: we didn’t know the market sell-off would accelerate to the downside the following week, but as we wrote—the time to reposition your portfolio for a sell-off is during periods of optimism. Not lemming.)
Market corrections are normal
If you are fully invested, take a deep breath. This too shall pass. If you have cash on the sidelines, this may be an opportune time to invest. Keep in mind that markets correct (a fall of 10%) every year without turning into bear markets. According to Deutsche Bank, the market corrects, on average, every 357 days. Yet many investors are not used to the swings and panic. Corrections are business as usual for seasoned stock investors but can obviously be unnerving.
According to DALBAR the average investor was “blown away by market turmoil in 2018” withdrawing funds as the market sold off and experiencing a loss of 9.4% versus a loss of 4.4% for the S&P 500. The underperformance for the average individual investor in up markets is comparable. Stay the course. And, if possible, commit more funds to the market.
Up your 401(k) contributions
Increase your 401(k) contribution during sell-offs or add money to your brokerage account. Investing when stocks are cheaper makes more sense than buying after they have rallied. Unless you believe the world is coming to an end, buying dips is simply sound investing.
Remember that markets usually overcorrect and over appreciate. Call this the lemming factor. The herd is hard to stop in either direction. Don’t be drawn in.
President John F. Kennedy once observed that “when written in Chinese, the word ‘crisis’ is composed of two characters. One represents danger and the other represents opportunity.” Wise words for today’s investors.