Every day a news article appears on the Internet stating how stocks are overvalued and that everyone should get out of the stock market before it collapses. These are the types of fear mongering stories that make people do irrational things with their investments. Individuals who invest through emotions rather than sticking to a strategy that caters to their risk profile are those who are least likely to succeed with their investments. It’s because of personal emotions that make individuals sell low and buy high.
Knowing when something will happen is purely guess work. Real estate markets in Canada have been climbing for the past two decades and the IMF keeps releasing periodicals announcing overpriced homes and insanely indebted families, but prices continue to rise. Perhaps markets will crash, or maybe prices will rise forever, but no one will ever know when that point in time will come. That’s why it’s important to forget about prices. The most important thing is building a diversified portfolio where the asset ratios match the individual’s personal risk levels.
Another case in point are REITs (Real Estate Investment Trusts). REITs are great investments for individuals looking for a regular income stream that also wants exposure to real estate without having to manage the property. If someone had invested in a REIT fund from the beginning of 2013 and held it till now, that individual would be looking at a 10% loss on their investment. Though during that time frame, the REIT index had actually risen by 6% before dramatically dropping in late 2013 and early 2014. Since the beginning of 2014, REIT funds have been up nearly 5%. Those with crystal balls and Deloreans will argue that REITs should have been sold and bought back when they were low. If only everyone could take advice from the future and bring it back to the past we would all be millionaires.
A better strategy would have been to put the REIT funds into a dividend reinvestment plan (DRIP). Since REIT funds give a regular monthly cash distribution, it’s quite easy to accumulate more shares by reinvesting the cash distribution back into the fund. When the fund goes lower, more shares are bought. This in essence is taking advantage of dollar cost averaging. Why is dollar cost averaging so effective?
An example above shows a schedule of what might happen if dollar cost averaging was used while holding a REIT fund. Even though REITs have yet to recover to their previous highs and they are sitting almost 7% below their original value at the beginning of 2013, a person who used a DRIP on their fund would only be down 2.7%. We all hate losing money, but employing proper investment strategy will mitigate losses when they occur. Notice how an investor now has an additional 23 shares because of reinvestment. Not only will that help when REITs regain their footing and start increasing in value, but those shares will also bring in extra dividends too! Sell the shares prematurely and the person gets nada!
Still not convinced that timing the market is bad? The old mantra that used to exist was that investors should “sell in May, and go away”. So what did the markets do this year? May might have been the best month to date with an overall gain of 2% in the S&P index. Doubters will say there is a bubble. Pessimists will point to China and America collapsing tomorrow. Real investors stay the course. Apply the rules of rebalancing to ensure that the original portfolio’s asset allocations are still intact. Don’t get greedy and overweight towards just one asset class just because it’s doing well. Investing is emotional and cyclical. Sometimes stocks are sexy to investors and the next day it could be bonds. To be successful long term, stick to an investment plan that fits the individual’s risk profile.
Timing the market is a losers game. Those that try only lose money because of the extra commission fees that are raked in by the big financial institutions. Don’t become a prey to Bay Street or Wall Street. Stay balanced and stay diversified. Most importantly, don’t stress over things that can be accomplished through patience.