Just Let it Ride (Really!?!?!)
By Brad Thomason, CPA

 

The opening salvo in this week’s edition of Bloomberg BusinessWeek is a scolding piece aimed at investors who are pulling their money out of emerging markets, and in so doing exacerbating the drop in prices. The piece makes all the familiar arguments about why the developing world is going to be “where it’s at” in the years to come, and how investors are missing it big by failing to realize that.

This article is in a long tradition of philosophical (propagandist?…) expositions which shows a decided bias for the notion that market downturns are best addressed by doing nothing. That notion, one side of a very long debate, dresses itself up in that timeless favorite of economists everywhere: the rational act. Pulling money out of a falling market is an emotional act, not backed up by any sort of thoughtful validity; and is not the sort of thing that “real” investors would ever consider.

Well, as one of those “real” investors, let me offer you a couple of counter points to think about. You know, just for fun:

 

  1. If the prospect for investment A is that it’s about to lose money over the coming period, while Investment B, which sits ready for the taking, is set to pay positive returns over the coming period, how does switching fail to be a rational choice?
  2. If you believe in the notion of buy low and sell high, how are you ever going to pull that off if you never sell? Especially after a solid run-up (i.e. when prices are high)?
  3. If the latest round of appreciation helped you grow to the point that you have what you need, doesn’t it make sense to reallocate to lower risk investments to protect the win – irrespective of which direction the market is about to go?
  4. If you decide to hang around, do you really know what you are signing up for? Investors who let it ride in 2000 had to wait until 2007 to see their values come back. Then the values dipped again and it was another 6 years (2013) before the market made it back to previous levels. That’s 13+ years of essentially zero return. A CD would have trounced that performance on an absolute basis; and on a risk-adjusted basis the difference is so stark as to nearly defy description.
  5. Can you avoid selling during the dip? Because if you need money and have to get it from the portfolio, it won’t matter if the market eventually comes back. For you, the loss will be permanent.

If you are 35 years old (or 350 years old, a la major college endowment) these issues probably don’t matter much to you. Your accounting date will be a long time in the future anyway.

But if you are approaching or already in retirement, and you expect to need income from your portfolio, then the situation is different.

The news media has a handful of biases that are probably unhelpful to some investors. If you decide to let your winnings ride through the next dip (whenever that might be), please don’t do it because a news article shamed you into thinking that you would be a fool to do otherwise. I’ve met with people who followed that advice (which they got from other advisors) and saw big chunks of their portfolio evaporate at the time in life that they needed the money the most. They were not fun conversations, for either party.

The classic advice is to look before you leap. But looking before doing nothing – as in riding out a market downturn – is not a bad idea either.