Was That the Bottom?
The market is on a tear. Since March 23, the U.S. stock market has rallied just more than 26%, as of April 10. We just capped off the best week the U.S. stock market has seen since 1974.
Investors are scratching their heads asking, “March 23...was that the bottom?”
It’s an interesting question. But it’s the wrong question. Let me explain.
Investors would be wise to take one of two approaches to managing their money. The first approach is more nuanced and technical; it involves judiciously assessing the attractiveness of securities, only buying when price is lower than value. The second approach is to continuously buy securities at regular intervals, no matter what the price may be.
Approach one is more difficult and time consuming than approach two. Neither one is more right or wrong than the other. But most investors would fare better over the long term by following the second approach.
Regardless of which approach you take, however, purchasing investments at the market bottom should not be the goal. In fact, that mentality will most assuredly set you up for failure. Why? Because identifying the market bottom is like trying to determine how much spicy food you can eat without getting indigestion. You only find out after it’s too late.
So, why are so many people focused on picking the bottom? It’s alluring.
It’s alluring because we know it’s the point of maximum pessimism in the market, meaning the point at which we maximize our profits. It’s also alluring because it means losses have come to an end. And we are wired to hate losses more than we love gains.
But we all know the problem. It’s impossible to know the hour or day the market bottoms. The bottom can be easily identified, but not in real time. Months after the fact, a simple line graph will make the bottom a cinch to spot. But by then the market will have inevitably moved higher, usually by a significant degree.
Just know that hitting the bottom is not required to be a successful investor. Buying within throwing distance of the bottom will yield wonderful returns over long periods of time.
Think about it this way. Let’s say you enjoy ribeye steak. Let’s also say that the price of ribeye is usually $12 a pound. You happen to visit the grocery store and see that ribeye is selling for $9.50 a pound, a 20% discount to the normal price. So, naturally, you purchase several pounds to cover your consumption for the next few months. That night you grill one of the steaks, and it tastes amazing.
But what happens if you stop by the grocery store a week later and notice ribeye is now selling for $9.25 a pound – 25 cents cheaper than when you bought your last bundle? Does the fact that you could have bought your steak a little cheaper diminish in any way the taste of your ribeye from the week before? Of course not. You still purchased great steak at a great price.
If you like steak – or stocks – then buying on sale is what’s important, not buying at the lowest possible price.
For example, if you would have bought $10,000 worth of an investment that tracks the U.S. stock market on October 1, 2008, in the middle of the Great Recession, you would have had $6,426 remaining five months later, about the time the market hit its bottom.
But if you held onto those shares through the end of March of this year, you would have earned a return of nearly 9.5% per year. That’s a great return, and it wasn’t because it was made at the absolute best time.
The fact is only two types of people buy at the bottom: lucky people and liars.
For the rest of us the advice is simple: Forget about buying at the bottom; just keep buying.