During bear markets, the temptation is to reduce exposure to stocks and move to cash. A common phrase we hear is “we’ll wait until things get better.” This inherently means that the investor will wait for some positive news or possibly wait for the market to start rising again in a more sustained manner.
According to my colleague Dirk Hofschire, CFA, “While this strategy may sound reasonable, its flaws are exposed when the bear market comes to an end.” Late investors to a new bull market can miss big returns. This can be shown by the chart below. Dirk finds that “investors moved into a record-high cash position by the end of 2002, during the exact period when the U.S. stock market was bottoming after a 3 year downturn. It took investors roughly until February 2004 – 15 months after the end of the bear market – to reduce their cash position back to an average level, during which time many had missed out on the stock market’s return of more than 30% during the simultaneous bull market rebound.”
THE UPSHOT: Late re-entry to the market can be costly. Historically, many investors overcome with fear have increased cash positions during bear markets but have been slow to reallocate to stocks in the early stages of a new bull market. This sell-low, buy-high approach is preventable with patience and discipline while maintaining a long-term perspective that this too shall pass.
FYI – As I write this morning, the Dow is up over 18% and the S&P 500 is up over 20% from the lows recorded on March 9, 2009.
Source: Lexis Nexis, Strategic Insight, FMRCo