Bring on the Bear!

Why new investors shouldn’t fear the next market crash

I’m about 12 years into my investing ‘career’ and during those years the stock market like Harry, Zayn and Louis have been moving in One Direction — up! If there were no history books to read, documentaries to watch or battered investors to talk to then we could be forgiven for thinking there are never any downturns.

Of course, you don’t need to be Charlie Munger or Pete Lynch to know that markets crash. These dramatic events are often immortalized by adding black to the day of the week said sell-off occurred.

Low-Information Diet

If you spend time consuming The Media’s clickbait articles on investing it’s almost inevitable that you will become anxious. There is no shortage of pundits who are warning of impending doom…. The whole thing can be like participating in a giant game of musical chairs waiting for the music to stop. Young investors today may feel like they are at an amazing college dorm party with everything ‘going to the moon’ but veteran investors know it isn’t long before the police show up and order everyone out.

Ok enough of my uni days. Let’s go back to basics; if you follow an index fund investing strategy (and you probably should) what exactly are you buying? In a nutshell a Vanguard, Blackrock or Schwab tracker fund will buy shares in every company in the underlying index. Sometimes it is the FTSE 100, other times the S+P 500. When that isn’t possible the fund may buy a representative sample of shares or bonds. The exact dynamics matter little, in essence, you are attaching your savings to the great machine of capitalism. A quick look back at history shows how that has been a smart bet.

Under-the-hood

In my portfolio roughly 50% of my index fund allocation is in the FTSE Dev World Ex UK- Accumulation. That is quite the mouthful but all it means is that it tracks an index comprising large and mid-sized company shares in developed markets, excluding the UK. The accumulation bit means that dividends it throws off are reinvested automatically. Less work for me!

Since we are here, let’s dig into the fund factsheet:

That’s right, owning a simple low-cost index fund means you own a share of Amazon, Google and Microsoft as well as 2082 other living breathing profit-making businesses. Think about it this way; every Amazon package that arrives at your office, every Teams meeting you have to sit through, you own a teeny-tiny piece of that. Almost enough to make you look forward to those 1:1 calls with your boss, almost…

Back up the truck

Switching gears; let’s say this weekend you walk into your favourite clothes shop- TKMaxx, Next or Topman (Ok maybe not that last one). You see a jacket that you have been eyeing for weeks is now half price. Just what you have been hoping for so you rush in and buy it. The same principle applies when you do your weekly shop, spot Mars bars are marked down 50% you load up the trolly.

Jumping back to the stock market, if the index is falling, owning a slice of those great companies is cheaper. We should all be logging into our Robinhood accounts faster than Superman folding sheets on laundry day. There are a couple of reasons why we don’t:

1. It is our familiar friend, loss aversion. This crops up time and again in our psychology around money. The upshot from the research is that we feel a loss twice as hard as gain. 7-day trials, or one-month free offers take advantage of this particular mental quirk. Those folks at Amazon are smart and like a neighbourhood drug dealer in The Wire, Marlo and Stringer understand that just a small dose of the good stuff is enough to get you hooked. The more you use subscription platforms Audible, Spotify Premium or Hello Fresh, the more they become embedded in your life and you naturally want to avoid the loss of giving up that service.
2. The second factor that prevents you from buying when there is ‘blood on the streets’ is that it means going against the crowd. When we evolved in the savannah being contrarian could mean being kicked out of the tribe with death being a distinct possibility. The fear of standing out from our peers is hardwired into us making thinking and acting differently extremely difficult.

The idea is that agreeing with the broad consensus, while a very comfortable place for most people to be, is not generally where above-average profits are found.

— JOEL GREENBLATT

Opportunity knocks

So by now, we have a basic understanding of some of the psychological drives at play. How can we flip our instincts and take advantage of periodic market downturns? One strategy I have been reading more and more about is establishing an opportunity fund.

An opportunity fund like Ronseal, does exactly what it says on the tin. It can help you swing for the fences with a portion of your investing funds. Let’s say the market nosedives 20% tomorrow, drawdowns like this are relatively common. That fall means those famous companies are now available at a 20% discount. When this happens it is worth pausing and asking yourself; did Apple, Netflix and Coca-cola suddenly become 20% worse, did they suddenly fire all their great employees, do away with their huge infrastructure and become junk? Or is our good friend Mr. Market having one of his mood swings?

Seeing falls like this as a buying opportunity is tough, no one wants to be the guy or girl to catch a falling knife and with those tickers and brokerage account balances flashing red it feels scary. Maybe this time really is different….

In the Covid Crash of spring 2020 new investors had a small taste of this (a dress rehearsal if you will) when markets suddenly fell 10–20% across the board. How did you react?

Did you sell up in a panic? If so you should take a look at your risk tolerance and add some shock absorbers to your portfolio in the form of bonds or gold.

If you jumped with glee as the SALE / BUY ONE GET ONE FREE signs were out and bought more then you can probably forget this article!

Perhaps you did nothing just kept dollar-cost averaging into the market. You were comfortable with your portfolio make-up and by happy coincidence, you picked up more units than usual at bargain-basement prices.

Keep calm

Remember investing is a game of patience. A marathon, not a sprint and you can be your own worst enemy if you let your emotions run unchecked. Mentally zoom out of those market charts and think long term- those Oblivion-like drops will look like small potholes on your way to financial independence.

In the long run, the market always goes up, so keep calm, keep your little green workers at the coal face, and if you have the stomach for it throw more money into the markets. The worst thing you can do when the bear rears it’s head is sell.