Tips, insights and information on general finance topics for better financial plans.
I'm not playing financial oracle or being hysterical, and I'm sure I don't know exactly when, but I think it is an important thing to accept. The market IS going to crash.
History is on my side here, and there is some substantive research to back me up like this article refers to, but I'm really so confident because I believe that this is the nature of the system. Appreciation and low volatility for a period of time (usually after a crash when prices are low, but enough after that the emotion has drained out of the topic) draws in more investors who value stocks higher due to the recent period of appreciation and low volatility, which improves performance and reduces volatility, drawing in more investors who value stocks even higher due to the recent longer period of appreciation and low volatility and so on. Along the way during these good times pundits start offering feasible rationalizations for how the stock market has changed and this is how things are going to be from now on. Eventually valuations reach a point where fundamentals can no longer even begin to justify them, confidence amongst the savvier investers wains and the bottom falls out because as soon as the appreciation stops and volatility resumes the thin rationalizations quickly become transparent to almost everyone.
That's not necessarily a problem, but what could be a problem is how one reacts. If you are investing on the assumption that the market is not going to crash, and in the event that it does you are going to sell your stock at a loss because you turned out to be wrong and will need to pare your losses, you are going to experience poor results over time in the form of sub-market or negative returns. Guaranteed 100%. It's a bad plan, a wrong way of looking at things.
This doesn't mean the stock market (a highly diversified portfolio...you are highly diversified, right?) is not the best option for long term investing, though it is the reason why the stock market is generally a poor choice for investing money you will need in 5 and maybe even 10 years depending on your risk tolerance. It means that if you are going to take advantage of the stock market's long term superior returns, you must categorically decide that when (not if) the market crashes and people are talking about how things might never get better again and that they could even get worse, you do not sell. You have to have absolute faith in reversion to the mean for the overall market, or at least enough confidence in the idea to guide your actions.
If you were investing at the time, try to conjure February 2009. That's what you need to be able to absorb emotionally. Accept, right now, that what happened was not a tragedy or a disaster, but normal and to be expected from time to time. If you can do that, you will be fine.