We are now 9 years into the current bull market, and the S&P 500 has risen over 300% from its March 2009 low.
Unfortunately, there are some investors that have been left behind. They sold their stock in 2007-2008 and never got fully back into the stock market. For example, a reader on the Bogleheads forum recently posted this question:
“I have had about $450k sitting in cash for too long and naturally have missed out on this great bull market…I know the market cannot be timed and in the long long run it should be up, but it still makes me very uneasy knowing we HAVE to be towards the end of this long bull market…”
What should an investor in this scenario do?
This is not an uncommon scenario
If you read enough financial forums, a lot of people like to gloat that they stood strong and did not sell during the financial crisis. But now that we’re almost 10 years on from the crisis, it’s important to remember just how scary the 2008 financial crisis was to investors. Remember that even Jim Cramer was advising some investors to sell holdings that they needed in the next 5 years. There was that much fear in the market.
Over time, investors who sold out of the market began to wade back into the market. Slowly, but surely, more and more investors came back in. But some investors never came back. The scars of the stock market losses during the financial crisis can run deep.
Even those who did wade in may have jumped out as the stock market has risen. The current bull market has been interrupted by a long series of mini-scares, and predictions about how the stock market is overvalued have accompanied its rise. The stock market may well be overvalued, but that hasn’t stopped the market from rising. As a result, many investors have been on the sidelines as the stock market has continued to surge higher.
Tips For Wading Back Into The Stock Market
It’s OK to jump in, even at these price levels
If you’ve been on the sidelines, it is best to invest now. Even though you’ve missed out on years of stock market gains, that doesn’t mean that the stock market won’t continue to rise in the future.
You may be waiting for a correction, but will you be able to buy when the stock market is dropping? Stock markets rarely fall without any narrative for the decline. Buying when the stock market is falling is much easier said than done. Don’t try to time the market and jump in now.
Forget your past mistakes
You need to forget that you missed out on the last 8 years of gains. Focus on what you can control, which is your current allocation and your future investment returns, not how your investments have performed in the past.
Learn from your past mistakes, but do not dwell on them. Trying to make up for past mistakes (i.e. by investing too aggressively) is a recipe for compounding those mistakes.
Lump sum investing versus dollar-cost averaging
A common question among investors with a large amount of cash that is ready to be invested is whether to do lump-sum investing or dollar-cost averaging. Lump sum investing would be investing all of the money at once. A dollar-cost averaging approach would be to slowly invest the money over a period of time (e.g. monthly over the course of a year).
From a mathematical perspective, it is most beneficial to invest your money all-at-once in a lump sum. I ran a historical simulation comparing a lump-sum approach and a dollar-cost averaging approach and the lump-sum approach was better. This is because the market rises over time, and the lump-sum approach allows your money to be invested for a longer period of time.
However, for this person, I would actually advocate a dollar-cost averaging approach. This investor has been on the sidelines of the market for years, as the stock market has risen. There is some trepidation about stepping back into the market. As a result, the psychological benefits of dollar-cost averaging outweigh the costs of taking your time to invest in the market. If he invests in the market and the stock market suddenly declines, then he may reverse course and exit the market, possibly for good.
Be more conservative with your asset allocation
For someone who has chosen to sit on the sidelines for 8 years, there clearly is a fear of the stock market.
In this scenario, I would invest in a more conservative asset allocation than the typical investor his age. To get a general idea of the risk tolerance of the typical investor, you might look at the asset allocation of the target-date fund based on the investor’s retirement age. This would be the most aggressive stock allocation I would take for an investor who has missed out on the recent bull market.
More typically, I would start with a conservative asset allocation and once the investor has experienced another bear market, he or she can modulate their asset allocation based on their reaction to the bear market.
Conclusion
For an investor who has missed out on this bull market and has a lot of money on the sidelines, I would encourage them to slowly wade back into the stock market and invest. It is impossible to predict when the bull market will end, but I am confident that the expected returns of the stock market in the future will be positive.
However, the psychology of investing is critically important in this special scenario, as an investor who has missed out on years of market gains could exit the market (possibly for good) if he or she sustains losses (even if short-term) shortly after investing. For this reason, I would suggest dollar-cost averaging over lump sum investing in this scenario, as well as a more conservative asset allocation.
What do you think? If a friend missed out on the 2010s bull market, how would you approach helping them to get back into the market?
I’m with you. I would recommend DCA as a way to get over that psychological hurdle of putting their money into the market. I also agree that the asset allocation and risk tolerance might need to be reassessed. If you’re overly worried about investing in a frothy market, perhaps your risk tolerance isn’t as high as you thought it was.
While I Did not miss the market by choice, but more a lack of money, I am lately sitting on some insurance cash. I have deployed a big chunk of it into the market but also am sitting on a chunk of it in 1.4% savings account. I have been debating putting more into the market and you have given me the impetus I needed. Thanks!
Hi WSP,
This a interesting post. I agree with you a 50%+ draw down on the S&P is huge especially for older investors – “If you read enough financial forums, a lot of people like to gloat that they stood strong and did not sell during the financial crisis. But now that we’re almost 10 years on from the crisis, it’s important to remember just how scary the 2008 financial crisis was to investors.”
Regarding the current market – what I personally do is look for value in the sectors if the overall market is high. (My main investment vehicles are the SPY and Spider Select ETFs). I know I give up a some on expense ratios relative to Fidelity or Vanguard – but like the flexibility these provide (liquidity and hedging etc). I probably spend a bit too much time on the markets :).
I’m so glad I didn’t get out of stocks at the bottom. I was pretty scared in 2008 but held on. I did reduce my stock allocation somewhere around 2012 or so when I was back “whole” after the crises took 50% of my money. Since then my portfolio has grown, but slower than it would have if I left my high stock allocation. No regrets though. I don’t want that kind of drawdown again if I can help it. If I got out completely I would be terrified to enter in the last few years since timing could be bad in both moves. That is why it is best to keep a steady asset allocation you can live with and never vary.
I think whatever it takes to get them back in is important. I’m doing much the similar approach with a family member who pulled out of the market. Slowly I got their roth moved from a stable value fund to the market. In that case Im managing their money for them now, but I still have to be careful to not shake their confidence in me. Logic and math doesn’t play into the results, psychology and humans do.
Solid advice, WSP. It’s tough to persuade someone to jump into the market at this point. The last thing you want to do is to change their mind just at the time things start heading south again. Dollar cost averaging in is a good plan for someone with cold feet.
Cheers!
-PoF
Lump sum vs. dollar cost averaging is not as critical here as asset allocation. Lump sum is empirically better, but I’d sign off on DCA if that helps them get into the equity market.
But I think you’d be doing them a disservice if you told them to employ a conservative asset allocation. I’d ask the investor to confirm that the $450,000 is intended for long term retirement, and not for any current needs. If that is the case, then they are best served by putting it all in the market in an equity index fund and letting it ride for 30 or more years. They could hold back a small amount for an emergency fund if they wish, but presumably that reserve account has already been taken out of this investable sum.
Too conservative of an asset allocation will cost them a tremendous amount over a long period of time. And you are market timing if you think that you can determine at some date in the future when it is “safe” to sell some bond exposure and move deeper into equities.
What I would do is diversify. I would invest the entire amount half in stocks and half in bonds, or 36% in SPY, 56% in BND, 5% in GLD and 2% in cash or BIL. If your expecting a crash why would you plow into the most risky asset? The reward/risk on SPY is 9.73% return for 15% risk. The portfolio I described has a 6% return but only a 6.4% risk. That means you own 62% of SPY’s return but only 42% of SPY’s risk. This means in a crash if you drop 50% with SPY you drop only 21% with the less risky portfolio. This portfolio will not only drop much less, but it will recover much more quickly, long before SPY recovers. If the market craps I would tax loss harvest, which further increases your future rate of return since in a post tax account that has cap gains you can pull money out tax free.
This gives you market exposure without crazy risk and is highly efficient. $450K @ 6% for 20 years gets you $1,450,000. $1M of the $1.45M is made out of free money aka interest. You can dollar cost average new money along the way and get even richer. Instead of ETF’s I would as much as possible use Vanguard mutual funds which are more efficient than ETF’s and less costly. The correlation between stocks bonds gold and T-bills are 1/0.03/0.03/-0.22 extremely well diversified.
Hello WSP,
I am legging my money into my funds with an GTC order that triggers if the market gets a 10% beat down. If that order does not trigger by the 1st week of each month, I simply buy the amount regardless. This allows me not to have to watch the market for a drop throughout the month.
I also have GTC 20% below market highs for my ETF’s set in my taxable accounts. My accounts auto alert me if the orders are triggered.
The money I am putting into the market now are with funds I do not even require. That’s why I simply set the system and wait for it to trigger.
I have invested through both the dot com and 08/09 markets. Having a written, systematic plan is crucial. No one knows how they will behave till the smack down occurs.
BTW- Dr. WSP, our investing philosophies are very closely correlated.
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