This article was published in November of 2007
With the current volatility in the market, it causes people to begin questioning their investments and wondering where we’re headed. In my profession, I have to work with uneasy clients daily, and it can be difficult to remind them that the stock market is constantly moving and generally goes through cycles. The market can’t go up indefinitely, nor will it go down indefinitely. More often than not, we’ll see periods of growth followed by periods of volatility or sideways movement, and then have a period of falling stocks that is followed by more volatility before the cycle repeats itself.
A Glimpse of Our Future by Looking at the Past?
Some claim that there is a four year cycle that the market follows, and there is some evidence to that. Of course, nothing is certain and the time periods of the cycle can vary, but there is some truth to it all. For this example, I’m going to take a look at the Dow Jones Industrials Average from January 1st of 1996 through today (November 26th, 2007). I’m using the DJIA simply because it is one of the more widely tracked indicies and it doesn’t have a heavy concentration of technology stocks that saw the most exaggerated data during this time period.
1996 – 1999
Ahh, yes. The roaring 90s. It was during the mid-to-late 90s that everyone was a stock trader. With the Internet becoming popular and the easy access to buying and selling stocks for the Average Joe, people were flooding into the market looking for the next company that was going to double or triple in the next three months. Think back to this time–how many people did you know that were afraid of the market or selling everything and moving to cash? Nobody.
Even though in 1996 the upward trend was just a continuation of previous years, the market seemed unstoppable. From 1996 to 1999 the DJIA nearly doubled in value. So, the money continued to pour in during 1999 as well…
1999 – 2002
1999 came and the market was still headed up. People who were naysayers a few years ago are now coming around and finally looking to get in on some of the action. Well, it sucks when you’re late to the party. As the new millennium came, the stock market reached record highs, but suddenly stalled and became very volatile. For the next year there was little direction.
This volatility soon gave way to a sell-off in 2001 as panic began to set in. Those who have been in the market for a few years quickly took their gains, and the selling quickly forced prices lower, which scared many of the people who just recently got into the market. As the media began to talk about how overvalued many stocks have become, especially the internet companies, people continued to unload their shares…
2002 – 2005
This continued throughout 2002 and the DJIA gave back most of the gains it saw during the late 90s. The NASDAQ fared much worse. When the selling subsided, the markets again became very volatile from late 2002 through early 2003. The markets began to pick up steam again in late 2003, but remained almost flat through 2004 as there was little direction…
2005 – Today
Most of 2005 was nothing to write home about as the markets were basically drifting sideways. Once 2006 rolled around, the market again started to rally. For the next two years, the DJIA tacked on over 30% and set new record highs. Again, if you asked most people early this year or last year about their investments, they probably responded very positively. Who wouldn’t? If you look at what has happened since April of 2003 to just a few months ago (almost 4 years), the DJIA has returned over 75%.
The Big Picture
As investors, most of us tend to forget about all of the good years and only focus on the bad. The broad markets have been heading up for about four years, so the thoughts of what happened in 1999-2002 are well behind us. But now that the markets are volatile, there is a lot of talk about the subprime mortgage industry, a weak dollar, and everyone begins to completely forget about how well the past four years have been and only focus on the last few months or weeks complaining how bad it is. Things can certainly continue to get worse, but you have to look at things in context.
Remember, what goes up, must come down. Not only does the stock market cycle, but there is a business cycle as well. We will always have various times that are great, and those that aren’t as great, but you can’t lose sight of the big picture.
Take a look at the following 12 years in a colorized format. Green identifies periods of strong growth. Yellow indicates a period of volatility or no real direction, and red shows a period of a downward trend. Based on this, is it any surprise that markets are becoming volatile and possibly trending downward?
For even more similarities, scroll back up and look at the first chart from 1996-1999. Now, scroll down and look at the 2005-Present image. Notice how similar they are? The markets went up for completely different reasons, yet are behaving almost the same. All you have to do is look at the following few years to see what might be in store for us over the coming year or two. Will history repeat itself? There is no way to tell, and anything could happen to make all of this information worthless, but you do have to at least consider the past trends and understand that there is a chance the market will behave similarly and we’ll enter a period of significant decline.
Keep Doing What You’re Doing
Sure, the market may be a bit unstable right now, and we may certainly be headed for a time where the market falls further, but that shouldn’t be of much concern to you if you’re investing for the next 10, 20, 30 or more years. If you want to try and time the market or predict what the next hot sector is, that’s fine, but the best thing most people can do is to just continuously invest in a diversified portfolio. If you keep buying even as the market falls, you’re just adding more shares at a lower price.
Could you make more money if you only invested at the low points and sold at the high points compared to dollar cost averaging? Sure, but the likelihood of succeeding on a regular basis is low. For most people, the best thing to do is to just continue investing bi-weekly, monthly, or quarterly into the same diversified portfolio regardless of market conditions. When markets are choppy or headed down, you’re just buying stocks or funds on sale. All you have to do is look back a few years to see that even though the market might go down, it will eventually come back up again.
Author: Jeremy Vohwinkle
My name is Jeremy Vohwinkle, and I’ve spent a number of years working in the finance industry providing financial advice to regular investors and those participating in employer-sponsored retirement plans.
ALSO...forgot to add. For valuing a stock calculate Book Value per share : it's the Warren Buffet Method. Very, very, useful. It give investors a saftynet.
I've been looking for a post like this for a long time :). Thank you Jeremy.
@Rusas > Dividends have made me a lot of money. Only place today I can get 13% on my money, but the risk is monstrous.
Why don't people understand that the stock market is just a huge ponzi scheme. What you make as profit somebody else has to lose, period. That is all. The stock market does NOT create money out of thin air. And sure, everybody puts money in with the hope of profit, but at least HALF the people will always be losers. That is a mathematical certainty. What you lose, somebody else makes, and what you make, somebody loses. The only way the market goes up is if more people keep putting in more money, or money flows into one stock as opposed to another. No magic, just good ole Ponzi scheme, although legalized by the government. Still, it does not mean it's not a Ponzi scheme, because it always is. So if you don't want to lose, stop gambling with your retirement money.
The Stock market's value has followed the total AMOUNT of money available for investment.
It has NOT followed the intrinsic value of the stock available for sale.
The AMOUNT of money available for investment has increased by the granting of tax free IRA'S and
other retirement and investment instruments over the years.
Check, (CHART) the HISTORY of the DOW and other averages and you will see the rise in prices EACH time the government has added to the amount that can be invested in all these IRA'S ETC.
Our grand dad's did not buy stock but you do because the GOVERNMENT allow's you to do it at a tax savings.
We have so many million's of people investing their tax free or tax deferred money in stock ( IRA'S ETC ) that the stock takes on a false value in response to a government created overload of supply and demand.
We have OVERLOADED the stock market with TOO MUCH money CHASEING the same old value stock.
It's a matter of INTRINSIC value beeing TOO low in both the stock market and the housing market.
Things will settle down when the cost of stocks and homes return to their INTRINSIC value.
By the way, the INTRINSIC value of a home is the INSURANCE REPLACEMENT VALUE that is paid if your house burns down.( Plus the bare lot) ----NOT the inflated price that you paid for it if you bought it the last 5 years.
I have not owned stock for 37 years Thank God. ( CD'S are my friend)
Not a gambler---------JACK
going by what most of you have said ,that is having investments over long or short term ,your gains have been minimal if any ,nothing like the projection ,offered or forcasted,the coclusion that i come to. is aint worth letting these over paid under acheiving theiving slobs play with your hard earned monney.they never actually produce anything of value to anyone ,nothing physical,they play with numbers and and peoples lives ,which mean nothing to them ,and after a hard day sitting behind a computer ,they go off to fancy drinking den a waste your money ,waiting for thier obscene annual bonus for f#$%ing up ,all trading should stop and they should get proper jobs ,selfish scum ,i have met many of them and they laugh vigaruosly about their balls ups ,not a care for the people they destroy
I used to believe the pundits who said you should stay in for the long haul but not anymore. If you can get in on a rising market trend and get out on a downward trend you can maximize your gains over time and minimize loses. Sure, you may miss a little of the beginning of the rally and take some of the decline but over time you will do better. I never recovered from the 2001-2003 era by staying in. You never make up the compounding gains (rule of 72). I know people who have done this and last year I lost 60% of my 401K and they were up 2%. Hey I wish I were up 2% last year! Anyway - realize some brokers will tell you to stay in because they make the most money on stock funds and the least on money markets so they don't want you to take your money out of stocks. Just my opinion. Have a prosperous 2009!
When I saw how the stock Market reacted to Obama's "spread the wealth" speech, I became nervous. When I saw he was gaining in the election, I dumped my Mutual funds and went to a 90 day T-bill fund that has always been between 3 and 5% APR. I also saw how many trends were going in the economy as well. You have really keep a close eye on your retirement accounts every day.I just sat and watched the market crash. I am sorry so many people lost their money.
my brother-in-law has lost about 2/3 of his profit sharing retirement plan. It has grown great and then crashed about 3 or 4 times in the last 25 years. I did a hypothetical what-if with an online calculator. He would have about 4 times his current total if he had invested in stable funds at 6%. Plus, he wouldn't have had all the worry and anxiety.
I wish that I could get a decent explanation of what these charts (graphs) are really showing. I am a physicist with an excellent backgound in math and it is clear to me that something is wrong here. If you just calculate the derivative of this chart or plot it seems to indicate a slope of 10%. I have been putting money into a 403(b) with a University match with a fairly conservative mutual fund. I started this in 1992. My account as of today is only worth the cash I put in it. Where exactly are my gains. According to your chart or plot I should be at least 10% higher in value. So what happened? I would have been just as well off to put my money into coffee cans and buried it in the back yard.
So you're saying even though we've droped back to roughly where we where in Oct 98 we shouldn't be worried? I sure hope you know what you're talking about!
I'm in my mid-50's, tried to get my financial advisor to convert some of my more poorly performing stocks and funds into something less likely to fluctuate, and now I've lost at least 1/4 of my retirement funds. And my financial advisor just doesn't get it, that the stock market can wipe out retirement funds at the time when you need your savings the most. I will not be able to retire anytime soon, now. It's as if I never saved up for retirement; I merely penalized myself and saved like crazy for no good reason, since it sure didn't put me ahead.
Whoops. DJIA lost US$1000,000,000 in one day yesterday. Down nearly 800pts. Hope you went to cash around the time you read this article.
Now if you were looking at retirement at age 62 and had lost 20% of your portfolio value over the past 8 months would you still be saying hold? More over would you consider re-directing rental property value to mutual funds to take advantage of lower prices? Are there any particular type of mutual funds you would dump at all cost?
If any of you'd be interested in great alternative to the volatile stock mkt, contact me for more info. You will earn a FIXED 12.0% return on short-term money(1-2yr)in your Roth. Your money is secured by a tangible asset of your choice.
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The best quote I heard on this subject was Richard Bernstein, Merrill’s chief investment officer, he said "“A main theme for the year is the underlying trend of volatility would go up, but I was not smart enough to predict the volatility of the volatility. The underlying trend of volatility is still up,”..... ???
we are trying to locate the stock market prices from june -december 1996 for at&t and comcast. how do we obtain that info? thanks.
What goes down, must come up. Or at least history says so. Buying stocks now is a great way to get a bargain price IMHO.
And now for another way to read your DJIA chart (1996 - present):
If a prudent investor had followed tech market bubble signals at anytime in the full 21 months spanning mid-1999 and Q1 2001 and pulled out of equity holdings, he would only need to have averaged a 2% return from that point on to beat the DJIA to present day. A more reasonable ~5% return on cash/bond positions would leave this investor far ahead of the "blindly buy and forget until retirement" herd, and with virtually no risk. (IMO, this approach would be ideally complemented by a handful of positions in specific stocks).
Basis: Out at 11000 in those 21 months, DJIA at 12099 in January, 2008.
I am not saying the market is to be avoided, this example is just meant to show that there are valid exceptions to the "buy and forget" mindset. When widespread signals and sentiment are negative or lukewarm at best, when it's clear to all that there are fundamental mistakes to unwind (tech stock valuations in 2000, credit structures in 2007, etc), then there is no compelling reason for individual investors not to reallocate to non-equity holdings. In other words, there is little no downside risk (by not being in the market), and a great chance to "earn" a great return by avoiding losing it.
Best of all, you can usually do this without redeeming retirement investments or incurring fees. I did this for about $500K in several after-tax accounts in November with no fees.
When to move back in? No worries, that's when dollar cost averaging is your friend. You won't buy back in completely at the bottom but you'll likely buy in at a much lower price than you realized when you got out. Plus you'll sleep a lot better and avoid the prolonged hand-wringing that goes with a long correction (as you knew this one would probably be as nearly everyone has talked about this for months now).
Nice charts. It's good to have a visual to look at. You should look at Paragon Wealth Management's charts on their website. This is a link to their Top Flight fund compared to the S&P 500. Take a look at http://www.paragonwealth.com/investment_services/top_flight_performance.php.
Not too many people have heard of them, but they've been around for over 20 years.
Nice charts that provide investors with a very good picture of what the markets have done. The falls can be dramatic and steep, but over the long run the U.S. market is a great place to be.
Sorry, I used $9,181, as the the start from 1996. I should have used $5,250.
I'm calculating the equivalent percentage in a savings account or 1 year CD with annual compounding. I'm ignoring the extra months.
For 1996 - 2007, I get 8.39% per year ROI.
For the 11 year period DJIA historical 1996 - 2007:
(x)^(2007-1996) = 12743 / 5250
(x)^11 = 2.4272
log( x^11 ) = log( 2.4272)
11*log(x) = log( 2.4272)
log(x) = log(2.4272)/11 = 0.03501
$5,250*1.0839^11 = $12,743
For the 8 year period 1999 - 2007, I get 4.18% ROI:
(x)^( 2007-1999 ) = 12743 / 9181 = 1.387975
log((x)^8) = log(1.387975)
8*log(x) = log(1.387975)
log(x) = log(1.387975)/8
x = 1.041832
$9,181 * (1.041832 )^8 = $12,743
(Ignoring less than $1.00 rounding errors in both).
What kind of math are you doing to come up with that? If you look at the first number of the DJIA starting with 1996, it was roughly 5,250. It is now around 12,800, or roughly 7550 higher.
7750 / 5250 = 144% return over 11 years and almost 11 months. 144 / 11.9 years = 12% average return. Of course this is just a rough average and doesn't take into effect compounding year after year, but it is a far cry from 3%.
If you had invested $9,181 on Jan 1 1996, it would be worth over $22,000 today, not the $12k number you show.
And your EE bonds stopped earning 6% way back in 1993, and progressively paid even less in following years.
Dude, your site tells me that the recent historical return is 3.03%
(x)^(2007-1996) = 12743 / 9181
(x)^11 = 1.388
log( x^11 ) = log( 1.388 )
11*log(x) = log( 1.388)
log(x) = log(1.388)/11 = 0.017797
In other words:
Given $9,181 in 2007 invested here, you'd get $12,743 in 2007.
$9,181*(1+0.0303)^11 = $12,749
"Risk free" E-Bonds earn 6% per year.
The SAME investment nets $17,428, or $4,679 more.
I enjoyed the irony of the first related article "Robert Kiyosaki Says You Should be Worried if You Are Counting on the Stock Market for Retirement"
I agree with him too - we're just now beginning to see the results of the banks and politicians shenanigans over the last 15 years. If you think it's bad now, wait until the banks 'accounting practices' are exposed to the light...
Investing on hope is never a good idea, history shows this quite successfully. Even the 'buy above 200 moving average and sell below the 200 moving average' trading philosophy over a long time frame will see you retire wealthy. It's not rocket science!
David, if you compare the S&P 500 chart, the patterns are virtually identical to the Dow. The only difference really is some of the percentages of the actual drops/gains, but the patterns and trends are virtually the same.
For instance, look at the 2005-present S&P chart vs. the same time period above. If you took the labels off, you wouldn't be able to tell the difference.
The S&P is much more broad, yes, but in the end the same issues apply.
I'm glad there are some level-headed people out there like you guys. It pains me to see a 30 year old come into my office and demand that they reallocate all of their 401k into bonds because they are scared of what the market is doing lately.
For most, they are essentially locking in losses and negating any effect that DCA could have. On top of that, these types of people are always behind the curve so to speak. They wait until the market does something major, THEN they make a change. So more than likely they will stick in bonds, and then only after the market begins to go up again for another 3-6 months will they jump back into equities.
Sure, it might be a good idea to tweak your holdings a bit. Maybe change how much international stock you have, add more growth or more value, etc. But you should never drastically stray from your core strategy based on what happens from month to month in the market.
Jeremy, this is an excellent illustration of how the market works for a long term investment. I only have long term investments right now, and to be honest, I'm not worried at all. I invest via dollar cost averaging in my 401(k) and Roth IRAs and allow the markets to do the rest. I have about 30 years or so before I will be able to access those funds, so I think it is best for me to focus on what matters the most now - asset allocation and maintaining low fees. I think the rest will work itself out.
I'm going to continue to invest as normal, and call me weird, but if the market goes down I won't be worried, or start to sell, rather, the further down it goes, the more likely I am to want to start buying. The fact that I have about 35 yrs to retirement combined with the fact that I don't have *that* much invested yet probably makes me a bit more risk tolerant ;)
Lovely article :)
Whenever I check the market and feel tempted to sit out for some time, I will simply look at your final graph and that will get me to continue to invest instead of waiting in the sidelines.
For reinforcement, I will probably plot the DOW for 30 years!!!
Actually, companies make money. That's where dividends come from. Dividends are paid to the shareholders, or are reinvested in hopes of improving the company - to make even larger dividend profits. So even if people put no more money in the stock market, its value will grow, because the value of companies will grow, and so will the value of their shares.
So, your 50/50 theory has just been disproven ;)