Rational Advisor

Yes, I know the markets are making you worried, I know your stomach churns as you see the value of your investments go down, my stomach does too. And Iknow you want to exit, and not add any more money to your “losing” propostion. And you have a bunch of reasons Why NOT to invest. Well, let’s look at them

What is your reason for not investing? Are you waiting for the markets to calm down a little? Worried about inflation? Want to “wait and see” how the economy looks in a few months? Wait for the recession to go away, for the Bank stocks to come back up, for Clinton/Obama to be the president? These are common reasons — but most of us know that delay can be costly.

Regardless of world events or economic conditions, stock prices have steadily risen over time, even with short-term setbacks. While no one can predict the future precisely, we believe building a diversified investment portfolio will help you navigate the ups and downs of the market.

It Pays to Stay Put with a well diversified plan

Although recent market changes may have made you worry, these fluctuations are normal. In fact, the TSX (the market( does fall by 10% almost every year or so

Historical Declines in the Market

Dip 5% or greater decline
TSX Composite (1948 - 12/2007) 1 every 13 months
S&P 500 (1900 - 12/2007) 3 per year

Correction 10% or greater decline
TSX Composite (1948 - 12/2007) 1 every 1.5 years
S&P 500 (1900 - 12/2007) 1 per year

Bear Market 20% or greater decline
TSX Composite (1948 - 12/2007) 1 every 5 years
S&P 500 (1900 - 12/2007) 1 every 3-4 years
Source: Ned Davis Research

Because it’s impossible to consistently predict short-term market movements, we think it’s best to stay invested rather than try to guess which way stocks will go. Historically, market declines have been followed by upturns, which often occur just as suddenly as the decline. Just like now, when people are only concentrating on the decline!Consider what happened in 1987:

1987 Roller-coaster Year for the TSX
TSX Closing Price
Beginning of year - TSX Closing Price 3066
Mid-August TSX Closing Price 4112 (high for the year)

Late October TSX Closing Price 2837 (31% drop)
End of year TSX Closing Price 3160* (gain for the year of 3%)
Source: Bloomberg*Dividends not included

Ultimately, stocks rebounded from their big decline, but 1987 tested the nerves of even the most patient investors. If you think people are worried now, that’s nothing compared to what went on then! Although no one expects a repeat of such a volatile year, it’s useful to see that even sharp declines are frequently short. The TSX has continued to reach new highs over time, most recently crossing 13,000 in 2007, as shown in the following chart.

Growth of the TSX
Year reached
1968 Market High 1000
1980 Market High 2000
1986 Market High 3000
1987 Market High 4000
1996 Market High 5000
1996 Market High 6000
1997 Market High 7000
1999 Market High 8000
2000 Market High 9000
2000 Market High 10000
2000 Market High 11000
2006 Market High 12000
2007 Market High 13000
Source: Bloomberg

Time Marches On Most investors are attracted by the potential for investment returns but also are concerned about the possibility of losing money when they invest in stocks. What are your chances of a loss? If you own a good mix of quality equities, your chances of losing money are generally reduced when you invest for a longer time. The problem is that the nvestors definition of long-term has shifted to six months - and that’s ridiculous!

The following table shows the chances of making money historically during different time periods. Although we would not suggest owning equities for just a month, your chances of making money were slightly higher than losing it. However, if you owned equities for a year, your chances of making money improved to 63%, or nearly two-thirds. If you held onto shares for five years, which is our recommended long-term approach, the chances of making money improved to 84%. During these years, owning the TSX Composite for a decade increased your chances of making money to 90%.

These figures don’t include the reinvestment of dividends, which would have increased the chances of making money over time.

Chances of Making Money
1919 - 2005 S&P/TSX Composite
1 month 58%
1 year 63%
5 years 84%
10 years 90%
Dividends not included. Data from Bloomberg, calculations by Edward Jones

Today’s Concerns
If you’re worried that your portfolio may not be able to withstand the wide swings the market can throw at you, make sure you have a portfolio that includes both bonds and equities, and diversified with value and growth, internationally and domestically

Investing involves taking risks, which is why it’s important to own investments that are aligned with your risk tolerance and goals. There are always reasons to delay making an investment decision, but getting started is frequently the key to success, especially since many of today’s concerns will be forgotten over time.

Including subprime, including US recession, including US housing market bust – just like we forgot – Long Term Capital Management, Asian Flu, Orange County bond fiasco, Peso collapse, and Monica Lewinsky!

Perhaps the greatest thing I’ve learned from all of the really smart investors - David Dreman, Tom Marsico, Charles Brandes, Gerald Cooper-Key, Dan Bain, George Frazer, Bill Tynkaluk, Warren Buffett, Benjamin Graham, Bill Ruane, Watler Schloss, Phil Fisher… is to have no emotions when it comes to investing. To trust your homework, even when the markets say it is wrong. TO believe in your Sound Intellectual Framework - and to keep your emotions from destroying it.

So you know what your “Sound INtellectual Frmework” is? Do you have the conviction to stick with it?

I do

Rational

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