Financial Myth #2: It's Dangerous to Invest at Market Highs
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Welcome to the Stay Wealthy Podcast. I'm your host, Taylor Schulte, and today I am continuing the four-part myth-busting series. The stock market has been screaming upwards for over 10 years now, and many people, rightfully so, are worried about putting their hard-earned money into the stock market, thinking we must be due for a correction soon. Is it dangerous to invest at market highs? Is it better just to wait for a correction before adding more to stocks?

I'm answering these questions and more. For all the links and resources mentioned in today's episode, head over to youstaywealthy.com forward slash 58.

Before we dive into investing at market highs, I want to first take a moment to clarify something that a listener pointed out to me regarding the last myth that we busted. So as a reminder, in the last episode, I shared why a rising interest rate environment doesn't necessarily mean that you will lose money in bonds. And I shared this hypothetical example to highlight this, but I also referenced that this hypothetical example wasn't really all that much of a stretch. In fact,

From 1940 to 1980, interest rates did rise from 2% all the way up to 15%. And I shared that if you were invested in 10-year treasury bonds during that time, you actually would have more than doubled your money. Well, one of our very smart Stay Wealthy listeners pointed out that doubling your money sounds great, but what about the rest of the world? What was inflation doing during that time? What were stocks doing?

I've mentioned this before on the podcast, but he brings up the very important point of being really careful about looking at asset classes in isolation. It's totally my fault. I'm trying to do these mini podcast episodes and I'm new to this mini podcast world and trying to keep things short and sweet. So it's my fault, but

we have to be really careful about looking at asset classes in isolation. It wouldn't be prudent for anyone to only invest in one asset class. We want a diversified portfolio with different asset classes that do different things and move in different directions, even if we are a conservative investor in retirement.

My lead planner in my office, John Luskin, he makes this point really well in his academic paper on government bonds versus corporate bonds, which I'll link to in the show notes.

If you just look at corporate bonds on their own and you look at that asset class in isolation, they look like the winner. But if you look at corporate bonds as part of a diversified portfolio versus government bonds as part of a diversified portfolio, you come to a different conclusion.

Since the last episode I did was solely focused on just interest rates and bonds and trying to highlight the relationship between the two, I neglected to comment about the rest of the global market. So again, my fault. But in case you're wondering, if you had instead had all your money invested in the S&P 500 from 1940 to 1980...

$1 would have turned into $70 versus you as a government bond investor where your $1 would have turned into a little more than $2.

And so that's because the S&P 500 had an average annual rate of return of just under 11% during that time period. So yes, again, like bonds, you didn't technically lose money, but if you own stocks, you would have made a lot more money. And this is a really great reminder why we invest in stocks in the first place instead of putting our money under the mattress.

Stocks historically have been one of the few asset classes to help us combat inflation. But if you had all your money in bonds from 1940 to 1980 and adjusted your return for inflation, you would be in the red. You didn't technically lose money on your investment, but you did lose purchasing power.

So I hope that helps to clarify. Again, we want to be really careful about looking at things in isolation. We want to look at the global markets. We want to look at diversified portfolios because that's the reality is that we all should be invested in diversified portfolios. So thank you very much to that listener who emailed me and pointed that out. I really appreciate it. Let's move on to myth number two, which is it is dangerous to invest at market peaks.

Really quick, before we get there, I want to mention that I don't think you should be investing your money in stocks at all if your time horizon for the bucket of money that you're looking at right now is less than 10 years. Anything can happen in a 10-year period. So forget about whether we're at a market peak or not. You really should not be investing in risky assets if you have really short-term needs for your money.

Okay, so to help illustrate why investing money at a market peak isn't as harmful as many might think, I'm leaning on Ben Carlson who blogs over at a wealth of common sense.com. And in 2014, he wrote one of my all time favorite blog posts about this fictional character named Bob.

who is the world's worst market timer. And I'm gonna link to the full post in the show notes for you and everything about Ben so you can go read all that. But here's the summary. Bob, the world's worst market timer, Bob starts investing at age 22 in 1970. And he is committed that he's gonna save $2,000 per year during the 1970s.

In the 80s, he's going to bump it up and start saving $4,000 per year. In the 90s, he's going to bump it up a little bit more and he's going to start saving $6,000 per year. And then in the 2000s, he's going to start saving $8,000 per year until he retires in 2013.

So Bob is committed to this annual savings program from age 22 in 1970 until he retires in 2013. That's his set it and forget it automatic savings program no matter what.

So that's going on. And Bob has started to have some success at work. So in addition to this automated savings plan that he has in place, he decides that I'm going to invest a little bit of extra money. So he has $6,000 that he decides that he's going to invest into the S&P 500 at the end of 1972. So again, reminder, this is on top of his already automated savings program he has going.

So at the end of 1972, Bob says, you know what? I've got an extra $6,000 lying around. I'm going to invest it in the S&P 500. Well, again, Bob is the worst market timer, really bad timing for him. The S&P 500 dropped by almost 50% in 1973 and 1974. He invested at a market peak and he experienced a really dramatic short-term loss, but he stayed the course.

Bob was relatively scarred from that experience. So he didn't invest a lump sum again until August of 87. So again, back in 72, he invested that lump sum of $6,000. It dropped by almost 50%, but he stayed the course. He didn't sell. He just stuck to his investments and didn't make any changes.

So now it's August of 1987. Bob's making some money again. He kind of forgot about what happened last time. And he said, you know what? I've got $46,000 lying around and I want to make an investment back into the market. So he takes $46,000.

And he makes a lump sum investment towards retirement and he puts it in the S&P 500 again. And if you remember the crash of 1987, Bob lost more than 30% very quickly. So again, Bob is a terrible market timer here. Quick fun fact, when people reference the crash of 1987 and Black Monday, they're referring to this four-day period where the S&P 500 dropped 30% in four days, right?

The media loves to make this the headline. They love to say things like, are we going through 1987 again? Does 2019 remind you of 1987? However, what most people don't know is that the S&P 500 actually finished positive for the year on a total return basis. So if you stayed the course in 1987, you reinvested your dividends, you didn't panic, you ignored the media and the headlines, you actually walked out of 1987 unscathed.

So the media, everybody loves to talk about this crash, this four-day crash, which is very scary. But for those that stayed committed to their plan, actually didn't experience losses that year. Okay, so back to Bob. Bob went through the crash of 87 with this brand new $46,000 investment. But like you would have done and like I would have done, he stayed the course. He didn't make any changes. He kept reinvesting his dividends and stuck with his plan.

Bob didn't invest a lump sum again until the peak of the tech bubble in December of 1999.

This time he splurged. He had a lot of extra money lying around. Tech stocks are flying upwards. And he says, you know what? I've got $68,000 and I'm going to put it in the market here at the end of December of 1999. And we all know what happened next. The tech bubble burst and things dropped by more than 50% and didn't really turn around until 2002 or so.

So that was Bob's third lump sum investment throughout his career. Again, terrible, terrible timing, but he stuck with it. He didn't panic. He didn't sell. He just kept his investments going.

His final, his fourth lump sum investment that he made was in October of 2007. After he recovered from the last roller coaster of the tech bubble, this time he invested $64,000 in October of 2007. And all of us for sure listening to this, we all know what happened next.

We had the second worst recession in history. And Bob, once again, he saw his lump sum investment drop by 50 plus percent. Again, Bob was a terrible market timer. He never timed the market right. He always happened to buy at these market peaks, but he never sold his investments. He kept staying the course.

To summarize all this, from 1970 to 2013, Bob made a total of four lump sum investments, equaling, if you're keeping track, $184,000. And again, these were in addition to his regular annual contributions that he committed to. Now, they weren't much, right? Remember, he committed to $2,000 per year during the 70s.

$4,000 per year in the eighties, 6,000 per year in the nineties, and then 8,000 per year in the two thousands until he retired in 2013. So he committed to that very simple, relatively small savings program. And then he made those four lump sum investments at terrible, terrible times, even though he made his lump sum investments at the absolute worst times in history for

Bob still ended up with a portfolio of just over $1 million.

Now, there are three main reasons why this happened. Number one, he stuck to his annual savings goals. He automated them. He committed to it and he never looked back. So he never stopped and started. He didn't change the amounts. He committed to that plan and he stuck with it for the entire time period. That's number one is he committed to that annual savings program. And I think what sticks out to me again is like, it wasn't, it wasn't a big number. Now,

you know, $2,000 back then, it was a lot more than it is today. But even in the 2000s, he was only saving $8,000 per year. So it doesn't have to be a big number. Number two, he never sold, which allowed compounding interest to really work its magic. Compounding interest is slow to begin over those first five, 10, 15 years.

but then it really starts to work after that. So he never sold. He had time on his side, which is number three. Number three, he had time on his side. He did have 43 years to save and invest. Now,

Before you start emailing me, many of you might be sitting there saying, I'm close to retirement or I'm in retirement. I don't have 43 years to save and invest. What are you talking about here? How does this even relate to me? While that is true, you still likely have 30 to 40 years in which you need to stay invested in the markets to combat inflation and generate an income stream for you in retirement.

You also probably shouldn't have a portfolio of 100% stocks like Bob did and just invest in the S&P 500. If you're at a later stage in life, you likely have other asset classes like bonds. But staying the course over those 30 to 40 years that you have in retirement, again, where you need to combat inflation and generate income, you can't just put this money under the mattress. So you do need to be in the markets, right?

But stay in the course during that time period will allow compounding interest to work its magic just like it did for Bob. It's still important.

jumping in and out of the market because we might be at a market peak will certainly hinder the ability to take advantage of compounding returns, and it will disrupt your portfolio returns without a doubt. This is why it's so important to have a diversified portfolio that aligns with your retirement goals so that you can have a plan, you can give it time to work, and

And you can be confident in it and not have to freak out and ask yourself, are we at a market peak? Should I get out? When should I get back in? As long as you have a plan that's been modeled for the next 30 or 40 years that you can have confidence in, then you don't have to worry about this stuff. But like Bob, I know that you don't have 43 years. Not everyone has 43 years to add money and save and invest.

But he still stuck to his plan. He never sold. He stayed committed. He stayed in the market. He reinvested his dividends and he just stuck with it. So no matter where you are in life, in the stage of your career, those rules still hold true.

So Ben wraps up his post with really three lessons. And again, I'll link to all this in the show notes, but Ben wraps up his post with three lessons. Lesson number one, if you're going to make investment mistakes, make sure that you're biased towards optimism. I've said it here on the podcast before the stock market historically is in the green every three out of four years. So taking a long-term approach has been rewarded.

Lesson number two that Ben points out is, look, losses are a part of investing. You can't have your cake and eat it too. You can't get relatively decent return without taking risk. Losses are a part of investing. You have full control for how you react to those short-term temporary losses and how you react is going to greatly influence your investment outcome.

Lesson number three, saving more, taking a longer term approach and allowing compounding interest to work its magic are our most, those are the most important things for building wealth. And I get a chance to say this for staying wealthy, right? So taking that long-term approach, maybe you don't have the ability to save more, but those last two principles still apply. Taking that long-term approach, allowing compounding interest to do its thing. Don't disrupt your plan. These things have no,

nothing to do with where the market's at today with market timing or picking stocks. So again, to read Ben's full post and access all the resources mentioned in this episode, visit youstaywealthy.com forward slash 58. I hope you enjoyed learning a little bit about the magic of compounding interest, how staying committed to your plan can really benefit you in the long run and busting another myth here. So thanks so much. And I will see you guys in two weeks.

Hey, it's me again. I just wanted to say thank you one more time for listening and remind you to please, please, please leave a quick review. If you're on an iPhone, leave a quick review on iTunes. If you're enjoying the show, I'm getting great feedback from listeners just like you. And I really want to keep the momentum going. So if you have a chance on your iPhone, leave a quick review on the Apple podcast app. And thank you so much in advance for all of your help and support.

This podcast is for informational and entertainment purposes only and should not be relied upon as a basis for investment decisions. This podcast is not engaged in rendering legal, financial, or other professional services. ♪