Pity the individual who chose to begin their investment journey a few weeks ago. Especially pity them if they had a big lump sum and invested it all.
Don’t get me wrong, I’m sure the markets will recover, eventually. But this situation does illustrate a golden rule of investing — never throw all your money at the stock market in one go.
Actually, on thinking about it, I would not pity an investor who has just begun their investment journey if they had followed this rule — I would envy them.
The markets have further to fall
Already we have seen a share rout, followed by a mini recovery, and then further falls. The mini recovery saw many conclude that shares had hit bottom, that ‘now was a time to buy.’
Such false dawns are common occurrences during stock market crises. The infamous 1929 crash saw many short-lived recoveries which tempted shareholders back in.
COVID-19 is spreading exponentially. It makes most of us nervous about our own health and the health of loved ones — is that a seasonal cold, or the dreaded virus? We wouldn’t be human if those thoughts didn’t cross our minds every time there’s a sneeze.
I believe the markets are underestimating the likely spread of the virus and its economic impact. They always are lousy at judging something that changes exponentially. Maybe it’s in our genes — Ray Kurzweil, the famous futurologist and Google’s Director of Engineering has said that our evolutionary past means we have no instinctive understanding of exponential — we might get it intellectually, but not in our gut.
As the virus spreads, we will change our behaviour, employers may eventually become more nervous about workers spreading the virus than about lost production, and markets will fall a lot further.
As for predicting the recovery, getting the timing right is nigh on impossible.
Diversify over time
That is why diversification over time is so important. If you plough all your money into stocks in one go, you risk timing your investment with stock market falls.
Sure, if you sit tight you will probably regain your money eventually, but you can do better.
If, instead, you drip feed your money into the market — say once a month for three years, or once every three months, you are limiting the risk while increasing the chances that that you will benefit from a recovery.
Three different situations, same response
Let’s say that you were savvy enough to have liquidated your portfolio at market peak, you have a lump sum for some other reason, or you invest a proportion of your income every month.
I would say spread out your investment over three years. If you invest a proportion of your income every month, then relax, you are following that strategy by default.
Follow that approach and just as investment losses occur on the falls, profits will accrue on the rises.
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Views expressed in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.