It’s a tough time for investors, and not just because Halloween is around the corner.
On the one hand, there are a lot of stocks that are (still) performing well, so if you’re not in the market, you’re missing out. On the flip side, the indicators definitely suggest that the market is ripe for a major correction. Sticking to or entering stocks at this point could take a toll on the value of your portfolio. Should we really invest in the stock market now?
The answer to the question is, it depends. Fortunately, we know exactly what it depends on.
What type of investor are you?
First of all, if you are wondering whether to pull out or look into this current market, rest assured that you are not alone. Even the pros can’t agree on what’s to come, in the short term or a bit later. It is not a surprise either. If anything about this business were perfectly predictable, we would all be millionaires by now.
With that as a backdrop, the smart money movement here depends on what you’re really trying to get out of the market.
If you are more of a trader and less of an investor, now is not the time to accumulate new positions. Indeed, now is the time to take a step back. The S&P 500 (SNPINDEX: ^ GSPC) is currently up more than 7% from its low in early October and more than 100% from the low last March when stocks collapsed after COVID-19 arrived in the United States. Both are unusually large gains for their respective time frames.
What makes these oversized rallies even more intimidating is that not once since the bottom of last March has the S&P 500 suffered a correction of 10% or more. Corrections are not only considered normal, they are a healthy reset for longer term rallies. The “we are owed” argument actually holds a bit of water here, given that inventories decline of this magnitude every two years or so. Here, in the shadow of the S&P 500 foray into record territory, now would be the perfect time to make it happen, as few suspect.
But there is a complication related to another market trend that can disrupt a trader’s timing. Right now we’re at the start of what is typically the best three-month period for stocks in any given year. Thus, traders may continue to increase their stocks due to the expectations that this year’s stock will reflect long term trends. This is the biggest risk for anyone who wants to avoid stocks at this time.
Of course, none of these short-term concerns pose a real risk to long-term investors who are genuinely looking a year or more into the future. For this crowd, a correction in the immediate future will be little more than an oversight when looking back.
It can help you focus on the big picture: according to online brokerage firm data Charles Schwab, between 2000 and 2019 – a relatively normal environment unaffected by a long-lasting global pandemic – the S&P 500 fell by at least 10% from a peak in 11 of those 20 years, with an average decline of 15% for each correction. Yet the market still managed to register a gain in 15 of those 20 years. The index’s average annual performance for this 20-year period was 6%, which may not be exciting, but keep in mind that the period includes the dot-com crash and the collapse. of 2007-09 subprime mortgages.
The point is, stocks may take a correction in the foreseeable future. For long-term investors, it just won’t matter.
To buy or not to buy?
While specific numbers may be news, the ideas behind them are not. Most investors innately know that stocks move with long-term time frames, even if they experience occasional short-term losses. The aspect of risk-based investing is simply not knowing when these ebbs and flows are going to take shape. This is a risk that both types of investors take, even if they don’t realize it.
To that end, the best decision here is not to make an all-or-nothing decision. The right decision right now is to identify which of your holdings are really destined for the long term and which of your trades are more speculative ideas meant to capitalize on momentum or headlines. Commit to holding positions for the long term, no matter what awaits you in the short term. As for your riskier and more aggressive trades, go ahead and eliminate the ones that you know are not designed to last, then draw lines in the sand (the prices you sell them at) for the names that fall somewhere between a long-held short and long-term position.
While this is often overlooked, the best investors in the market understand that success lies more in managing risk than identifying the most promising stocks.
This article represents the opinion of the author, who may disagree with the “official” recommendation position of a premium Motley Fool consulting service. We are heterogeneous! Questioning an investment thesis – even one of our own – helps us all to think critically about investing and make decisions that help us become smarter, happier, and richer.