Tuesday, October 18, 2011
Over the long term stocks have provided us with great average return results. But this average return masks a great deal of volatility, because returns have fluctuated within a very wide band.
This extreme volatility is the chief risk of investing in stocks, but it is a risk that tends to recede from investors memories after a lengthy period of generally rising stock prices.
Those investors new to investing in stocks may underestimate the volatility of stocks because volatility has been muted in recent years.
Time greatly reduces, but certainly does not eliminate the volatility in returns from stocks. On the other hand, there is no guarantee that you will earn above average returns even if you hold stocks for two decades or more.
Investors who are relatively new to investing in stocks may benefit from some perspective about bear markets.
During the bear markets, Indexes declined an average of 25-35%. Although the average bear market lasted a little longer than 12 months, it took an average of almost 20 months for the Indexes to return to the levels achieved before the market downturns.
Although no one can reliably predict the timing of bear markets (or bull markets, for that matter), a prudent investor should understand the extent to which stock prices can decline and should be prepared to "ride out" these periods when they occur.
The big danger from bear markets is that investors will sell at or near the bottom of the downturn. Those who got out of stocks missed an extraordinary rebound in stock market performance.
Since risk is inescapable when investing in stocks, perhaps the greatest risk is that you will never invest in stocks because you can never be sure when is "the right time" to invest.
Uncertainty is a permanent feature of the investing landscape, and trying to discern the ideal time to invest is almost always a futile exercise.
Don't be swayed by market fluctuations or the opinions and predictions from market analysts and forecasters. Your investment strategy and expectations should all be based on your personal objectives, time horizon, risk tolerance and financial situation.
It should not be determined by the direction of the financial markets or the opinions of "The Experts!"
Volatility is the Chief Risk of Investing in Stocks