The 1 Piece of Advice Long-Term Stock Investors Need to Avoid Panic-Selling — From a Best-Selling…

  1. Become A Rational Investor
Photo by Anthony Tran on Unsplash

Nothing is free.

Morgan Housel, personal finance writer and best-selling author of The Psychology of Money, has a knack for simplifying the complexities of money. In his book, he offers readers a series of short stories covering everything from how real wealth is what you don’t see to the real reason Warren Buffet has been such a successful investor — time in the market.

One of Housel’s key insights is that nothing is free, including good investment returns.

He writes that everything has a price, and “a key to a lot of things with money is just figuring out what the price is and being willing to pay it.”

Stock Market Volatility is a Fee, Not a Fine.

Housel states that investors are more likely to stay invested if they realize market volatility is a fee, not a fine.

This may seem like a trivial distinction, but the devil is in the details. A fee is what you pay in exchange for something. If you want to watch the Knicks play ball in the Garden, you pay a fee to buy tickets. If you want access to tens of thousands of shows, movies, and comedy specials from the comfort of your couch, you pay for a Netflix subscription (or share a login with friends, but I digress.)

The point is — if you want something, you are willing to pay a fee. But, a fine is different.

A fine is something you try to avoid. It’s a speeding ticket you get for driving ten over on your way to work or the underpayment penalty the IRS charges when you fail to withhold enough in taxes throughout the year.

A fine is bad — nobody wants to pay a fine because it’s a punishment.

According to Housel, the problem many long-term stock investors have is they think the stock market dropping 5% in a day is a fine — something they should be actively avoiding — when in reality, it’s simply a fee — the price they pay for great investment returns over the long haul.

Housel writes: “Market returns are never free and never will be. They demand you pay a price, like any other product. You’re not forced to pay this fee, just like you’re not forced to go to Disneyland.

You can go to the local county fair where tickets might be $10, or stay home for free. You might still have a good time. But you’ll usually get what you pay for. Same with markets. The volatility/uncertainty fee — the price of returns — is the cost of admission to get returns greater than low-fee parks like cash and bonds.”

If you view volatility as a fine, a single-day 5% drop may get you all out of sorts. Two of those in a row may have you questioning your entire investment thesis. And by day 3, you’ll be liquidating your whole portfolio, retreating to the sidelines to wait it out in cash.

But, if you view that 5% drop as the fee you have to pay to get great returns over the long run, it’ll still be uncomfortable, but you’ll be less focused on avoiding it as you realize it’s all part of the process.

If you want great returns, you’ve got to be willing to pay the price.

If you zoom out and view the stock market over any 30-year period in history, getting decent returns looks easy.

Even viewing any 20-year time period from 1872 to 2018, the S&P 500 never had a negative real return. But, the smaller the time period, the higher your odds of experiencing a negative return. That’s because, in the short term, the stock market can be all over the place. Famed investor Benjamin Graham liked to say that the market is like a voting machine in the short run, but in the long run, it’s a weighing machine.

The bumpiness in the short run is the price you pay in exchange for the 20, 25, and 30-year returns.

Part of being a great investor is simply staying invested long enough for the volatility to smooth out and the effects of compounding to take hold. The price you pay is the ups and downs of the market in exchange for the highly coveted 8–10% average returns per year.

“The trick is convincing yourself that the market’s fee is worth it.” Housel writes.

And ultimately, that comes down to you.

Why are you investing — what’s your goal? Are you trying to maximize your gains while avoiding losses — or are you trying to secure a healthy nest egg for your work-free years?

The beauty of personal finance is that every situation is unique. Long-term investors can view volatility as the price of great returns, but short-term investors may view it as a fine to avoid — a punishment for poor judgment.

Ultimately the advice is simple:

  1. First, get clear about what you’re trying to accomplish.
  2. Then, understand that volatility is the fee you pay for great investment returns.

Remember, nothing is free, but the price isn’t always obvious.

This article is for informational purposes only. It should not be considered Financial or Legal Advice. Not all information will be accurate. Consult a financial professional before making any major financial decisions.