OK, so finally we have the big headlines we’ve been waiting for now that the Dow Jones Industrial Average has hit a new record high.
Great … does that mean we get back to business as usual?
The record is meaningless for a host of reasons, but mostly because it is a distraction to most investors that should be plotting a long-term strategy for a long-term bull market run.
Stay the Course
I like to riff on the original sin of trading too much (here and here, for instance). It’s a fault that all traders must guard against — even those who are the very best in the game. Unfortunately, there is no time more tempting to go all or nothing than at a perceived inflection point.
When markets are setting new highs or lows, it’s easy to overthink things, take your eye off retirement and follow the headline-driven hype peppering the blogosphere. Instead, you shouldn’t forget these simple truths of investing:
- Averaging In Reduces Volatility: Want to avoid buying too much at a top or selling too much at a bottom? Then keep buying the market slowly over time instead of timing it, and enjoy a smoother ride in stocks.
- Passive Indexing Works: There are countless reports that show active fund managers regularly underperform the major stock market indexes — and active management costs you more in fees to boot.
- Buy-and-Hold Works Long-Term: There are always short periods of time when a certain strategy looks foolish and another looks to be bulletproof. But unless you are on the verge of retirement, your best course of action is to stick to a disciplined buy-and-hold strategy rather than chase fads.
There are those who will claim these ideas are quaint and ineffective — that they are smart enough to pick the right stocks at the right time and actively manage their own portfolio to outperformance. They may even have a few years of impressive returns to back it up. But keep in mind this kind of success is rare and does not reflect the experience of most investors.
There are also those who will argue that this time is different — that the bull or bear case is more compelling than ever before. Well, as Sir John Templeton said, “The four most dangerous words in investing are: This time is different.”
Stick with a disciplined strategy that involves averaging in and hanging tough for the long term … epecially if you’re a young investor or one looking for the right time to get into this market.
Bull or Bear?
For the record, I do believe that we have upside from here and that the rally is sustainable. But that’s academic, because you can find enough “experts” on either side of the market to support any strategy.
Here’s the bull side in a nutshell:
- New highs prove the recovery is sustainable and strong. The fact that so many issues are at new highs but have historically attractive P/E ratios shows stocks are at worst fairly valued and maybe ready for another leg up.
- Positive momentum will continue as the Dow’s new high goes mainstream to consumers and retail investors, fueling spending via the wealth effect.
- The worst is behind us and uncertainty is priced in. If we can rally right after the sequester and Italy vote (not to mention another lackluster earnings season), then the sky is the limit.
- Insert a laundry list of other forces here including the Great Rotation from bonds to stocks, massive stock buybacks and M&A activity and the like.
And here’s the bear side in a nutshell:
- New highs are a painful sign that the top is in. Investing now is foolish — a classic “buy high, sell low” move that most investors make.
- Certain corporations are rich, sure, but they aren’t spending anything so the economy is doomed to languish. Unemployment remains persistently high, consumers took a hit with the payroll tax increase and corporations remain tight with enterprise spending.
- Have we learned nothing since 2008 about tail risk? This market is irrational and hasn’t priced in real global economic challenges … and it will be painful when it does.
- Insert laundry list of other forces here including cooling China manufacturing, signs of distress in U.S. housing, European recession and the like.
The question of whether we are going up or down in the short term is clearly a difficult one to answer, and I’m reluctant to place a bet.
But long term, the recovery continues slowly and the vast majority of economists and stock market watchers think that 2014 will be better than 2013 and that 2015 will be even better than that. So unless you plan on punching out in the next 18 months … well, the volatility is largely academic.
You can try to outsmart everyone, including cold-blooded hedge fund computers and find some miraculous “inefficiency” in a stock or the broader market.
Or you can keep your eye on the long term and not sweat it, resulting in less stress and likely bigger profits.
- FWIW, Mebane Faber points out that “buy high, sell higher” is indeed a strategy that works. (World Beta)
- How averaging in smooths your returns over time. (Morningstar)
- Jeff Benjamin weighs in on why buy and hold works. (Investment News)
- Of course, Eddy Elfenbein points out that “The vast majority is slow and boring” but extreme events do matter as “things get very, very dramatic.” (Crossing Wall Street)
- Ali Meshkati pens an ode to the short-term trader, and his short-lived fads that often result in big-time losses. (Zenpenny)
- An old but shrewd post from Josh Brown on “Tops, Bottoms & Middles” in the market. (The Reformed Broker)
Jeff Reeves is the editor of InvestorPlace.com and the author of “The Frugal Investor’s Guide to Finding Great Stocks.” Write him at firstname.lastname@example.org or follow him on Twitter via @JeffReevesIP.