Is Doing Nothing the Right Thing to Do?
During a Bear Market, many investors are tempted to sell their stocks and move to cash. Many financial advisors will tell them to sit tight, and ride out the storm. Is “doing nothing” the right thing to do? Today we’ll share some interesting data that shows that in the last market, doing nothing was better than panicking.
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Is Doing Nothing The Right Thing To Do?
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We’ve already been through a lot this year. And we’re still dealing with a lot. We have an election coming up in a few weeks. The Coronavirus is still part of our lives. There are questions about another major shutdown. And there are some concerns with all the government help that there is going to be hyperinflation. There are a lot of things that could cause another bear market.
When we have major turmoil, people want to do something to protect their nest egg. In every bear market, we’ve had people call and ask if they should go to cash. Our answer has always been no. Sit tight right through any storm we encounter.
We believe you will be better off if you don’t make an emotional decision. Doing nothing is hard to do. In fact, it’s the second hardest thing to do as an investor.
Inevitably, we will have someone who can’t take it anymore and bail out. During the “dot com” bust and the Great Recession, we had clients who sold their stocks within a week of the market bottom after the damage was done.
Is doing nothing the right choice? Recently, Vanguard did a study during the bear market this spring. They looked at over 31,700 accounts, both retirement plans, like 401(k)’s, and retail accounts. They found that 0.5% of those accounts panicked and moved to cash between the market high on February 19 and the end of May.
They looked at two things. They looked at the actual returns of those clients at three different points: March 31, April 30th, and May 31. And they compared those to the returns those clients would have realized if they had done nothing. Here’s what they found.
By the end of March, 56% of those clients who went to cash were in a better place than if they had done nothing. This means they had a higher balance than if they stayed invested.
The stock market rebounded very quickly. By the end of April, only one third of those clients were in a better place.
By the end of May, only 15% of those clients had a higher balance by going to cash. 85% of those clients who panicked would have had better results if they did nothing.
85% of those clients who panicked would have had better results if they did nothing.
Why is that? Most of them didn’t guess the correct time to move to cash. You have to make that decision very early in the process, so you don’t take part in the downturn. A good number of them went to cash after a significant amount of the damage was done.
When the market turned around and moved higher, they missed a great buying opportunity. They didn’t participate in the rebound. Essentially what they did was sell low and bought at higher prices. This is the exact opposite of what you’re supposed to do.
The cost of being wrong
If you sell now thinking things are going to get bad, you have to be aware that they may not get as bad as you think. For example, let’s take the 2016 election. I woke up that morning and saw that Donald Trump won the election and immediately turned to CNBC. The futures that morning showed that the Dow Jones Industrial Average was in for a rough day. When I got to work I had two calls before the market opened. These clients were extremely concerned about what was going to happen in the stock market. They thought it was going to be ugly.
By the time the market opened, futures were positive. Over the next several months, we saw the stock market race higher. Had those clients gone to cash, they would have missed that rally.
If things do get as bad as you believe, you might be right for a while— just like the folks in the Vanguard study. But will you have the confidence to buy at lower prices?
Most people think things are going to get worse before they get better. Stocks are forward looking. The stock market will turn around long before the economy turns around. Stocks will begin to increase long before people believe things will get better. If doing nothing is the second hardest thing to do, then buying stocks in the middle of a bear market is the hardest.
Vanguard found only 9% of those 31,000 accounts bought more stocks during the bear market.
If you have to...
If you’re convinced you need to go to cash, do it early. Do it before things get worse. We’ve already seen a minor pullback. Don’t wait until things are down 20% or more to sell. And you need to have a plan to buy at lower prices. You must have courage to buy when things look like they’re going to get much worse.
If you can’t make the decision to do both of those things, then do nothing. Sit tight and ride out the storm.
About the Author
Neal Watson is a Certified Financial Planner™ Professional and a Financial Advisor with Fleming Watson Financial Advisors. He specializes in helping hard working, middle class families plan for retirement.