All Time Highs

As the first quarter of the year ended, the impact of the COVID-19 pandemic on risk markets almost seemed non-existent.

Over March we saw development of several areas:

US markets return to all-time highs,
Australian markets return to all-time highs
Bitcoin reached all time highs
The Australian Residential Property markets reached all-time highs
Further upgrades to the global economic outlook,
Additional US stimulus packages and
Central Banks reaffirming monetary policy and inflation expectations.

Is it dangerous to invest at market peaks?

Our Newcastle & Lake Macquarie Financial Planning Advisers are receiving more & more questions each day…

is it dangerous to invest at market peaks?
should we wait until prices drop?
I can’t afford to buy now
What happens if the market drops after I buy?

And a plethora of other related questions.

As illustrated in the above graphs, people who purchased before:

The 1987 stock market crash - which resulted in a 20% decline in US stocks in a single day, before a 3 month bear market resulting in a fall of just over 30%. However, the bear market rally after this, lasted 153 months producing a return of over 559%.
In the year 2000, we had the collapse of the tech bubble. The bear market lasted 25 months which saw the market fall by over 46% during this period. However, the market rallied and over the next 61 months produced a return of 90%.
Then we have the Global Financial Crisis of 2008, saw markets across the world fall by over 52%. However, the correction over the next 130 months resulted in a return of 339%.
And the most recent fall in markets due to COVID-19. Over the 3 month period we experienced market falls of 20%. However, over the past 12 months we have seen markets rally by over 53% to be above pre-COVID market levels.

Further to these questions and investigating the bull and bear markets of the past, I wanted to jump in and analysis the performance of an investor that simply invested their money at market peaks, just before market crashes.

Our simply story is used to get across the importance of having a long-term mindset about investing.

However, when I have spoken about this on social media before, I have received a lot of push back.

What about Japan?

What if stock returns aren’t as good going forward?

What if there is World War III?

What if the world comes to an end?

There are always risks involved with any investment strategy but I believe thinking and acting for the long-term gives you the biggest margin of safety of any approach.

As illustrated, returns over the short-term are not great, but over 20+ years the returns are not terrible.

There were some lean times in there, especially in the aftermath of the Great Depression.

But by large, the long-term returns even from the height of market peaks look pretty decent.

But if you have a long enough time horizon and are willing to be patient, the long-run remains a good place to be when investing in the stock market.

So investing at the peak of the market is all relative.

Depending on a number of factors including:

Your goal & purpose

We see this all too often.

Matt if I was to give you $10,000, $100,000, $1,000,000 how much can you make me?

My response is nothing!

Investing is the by-product of your goals and purpose.

I tell my clients to think of your finances like a road trip…

You understand your starting position – and you enter in your destination.

The navigation system them maps out your route to get you there in the most effective manner.

However, there may be road works or accidents where your route has to be altered to get around the obstacles and get to your destination.

This is very similar to your finance journey.

First you need to understand where you are at today.

Then you need to know your destination, need to know where you are going… These are your goals and what you are looking to achieve.

For example - why are you investing or purchasing a property?

Depending on your purpose, will help determine if it is appropriate to invest at the “peak” of the market or not.

For example;

If you are selling/buying a family home in the current property market, you are buying and selling in the same market so this will not be a significant factor in your investment decision. In addition, if you are buying a family home for the next 10-15 years you will be able to go through an entire property cycle.

Your timeframe

Your investment timeframe or horizon is another key factor in making your investment.

As an investor, it is important to find the right mix of both short-term & long-term investments to achieve your financial goals.

Your investment timeframe will come down to your goals, when you require the money and the purpose of your investment.

Some investments are high risk and may not be the most appropriate to invest for the short term.

eg. if you invested in property for 6-12 months, the transaction costs would kill you, and if something was to happen to property markets, you would not have an opportunity to recover your losses.

As illustrated in the table above, even if you were to invest at the peak of the market before a crash, short-term your returns suffer, however over the long-term the performance numbers bounce back and are respectable.

Risk Tolerance

Your risk tolerance is a combination of your risk you are willing to take for the reward.

The risk-return trade off states that the potential return rises with an increase in risk.

Using this principle, individuals associate low levels of uncertainty with low potential returns, and high levels of uncertainty or risk with high potential returns.

Some may be not happy with their 0.2% interest they are receiving at the bank.

However, the government has guaranteed this money, so it is considered safe.

Whereas, investing in property & shares may offer a potentially better return, these investments are not without risks.

Your investment strategy/ Diversification

“Don’t put all your eggs in one basket”

What does it mean?

Don’t have all your money in one place as you could lose it all in one go.

Fear of losing money is one of the reasons that people may be wary of investing, but putting your money into different investments (your imaginary eggs going into a series of baskets) can help reduce some of the risk.

In technical terms, this is called diversification. It just means spreading your money into different investments, such as equities, bonds, cash, and property.

Why should I split my money across multiple baskets?

Let’s say you choose to have some of your money in a cash savings account so that it is easily accessible. You’re also on the property ladder, so you have money invested there, and you have superannuation invested in a mixture of shares, bonds, property and cash.

This is an example of investing in different asset classes and it is important to do, as not all asset classes are affected in the same ways by different economic events. If you don’t want to do the diversification yourself, you could buy into a fund that does it for you.

When one investment basket (asset class) doesn’t perform so well in the market, another may outperform, which can provide some protection against major losses to your money and investments.

Dollar Cost Averaging

Markets go up & markets go down.

This is completely normal and is know as market volatility or risk.

This philosophy is to invest small amounts regularly, even in falling markets as this can help you to ride out the downturns in the market and is one of the keys to having a healthier balance over the long run.

This is the well-known principle of dollar cost averaging.

The best example of this is superannuation.

Your employer will contribute to your superannuation each month, which your super fund then invests as per your investment strategy.

Therefore, each month, regardless of whether the market is up or down you are investing into the market.

Therefore, before you jump in to determine if the market is at the “peak” and should you be investing now… go back and read this article again, make sure you tick of all the tips we provide, as this will provide you with clarity, direction and ultimately provide you with the answer of whether you should be investing now or not.

If you have any questions, get in touch with our Newcastle & Lake Macquarie Financial Planning Advisers, who will be able to provide you with expert advice.