Is this the start of the next stock market crash?

The stock market was down today and my office was awash with talk of a stock market crash.

“There goes my retirement,” said one of my older coworkers, partially in jest but it was the younger crowd that seemed more worried. I work in a place where no one ever talks about their investments but today that changed. People know that I’m interested in investing but I rarely get any bites when it comes to investment conversations. Suddenly, I was deluged with instant messages from people asking if they should take their money out of the market.

“Is this the start of something bad?”

I didn’t really know how to answer that.

“This is the stock market,” I said, “this is how it works.”

It wasn’t a great answer but the best I could come up with. The truth is often just that simple. Sometimes and more often than not stocks go up but sometimes they go down. Sometimes they go down a lot and for extended periods.

“Is that time now?” 

Who the hell knows!

It’s interesting because no one has mentioned the recent bull run in the office. The S&P 500 has been on an almost uninterrupted rise since 2009. There was a blip here and there but we’ve gone from the high 600s in 2009 to nearly 2900 before this latest drop.

Why was that? Why do we ignore the rise but seem so laser focused on the drop? The obvious answer is that we feel the sting of a loss much more than we revel in the success of a gain. That’s true but I think there’s more to it than that.

Have we as investors become so used to the market being so giving that this comes as a shock?

This IS how the stock market works. It’s not a regular thing but it’s not abnormal. I think it’s important to remember that. That doesn’t mean today was a good day to be an investor. It wasn’t, it sucked but it’s part of investing. I think it has been very easy to forget that in recent years especially if one started investing after 2009.

Part of it was the size of the decline. Today was the largest loss on a point basis in the history of the Dow Jones and in the S&P. The fact that it followed a similar day on Friday was worrying too. Bigger numbers are harder to ignore. This was the first 1000 point decline in Dow Jones history and nearly 400 points more than the 2nd highest daily loss.

That seems bad and while it’s certainly not a good thing, one has to take those numbers in relative terms. The Dow Jones has grown 14000 points since the 2nd highest daily loss. This largest point decline that is all the talk today doesn’t even break the top 20 list of biggest % declines in history. The S&P 500 fits the same mold. The larger the starting point, the bigger the potential fall on a dollar basis.

It’s important to remember that. It’s harder to ignore it. The first 1000 point decline in the Dow may be easy to write off as nothing because it’s doesn’t even crack the top 20 on a % basis but larger numbers lead to larger mistakes. Investors have a tendency to make irrational decisions when things look bleak. Bigger numbers tend to make things look bleaker than they really are.

That doesn’t mean there’s no potential problems ahead but things just aren’t that awful so far.

These last two days have been ugly but the S&P 500 is down 1.74% YTD and the Dow is down 1.93% YTD. That’s not terrible and far from a crash. Both are UP 1% since December 25th. The world is far from over but a day like this can remind you of something.

Stocks aren’t a risk free source of returns.

That’s even more clear these days. High frequency trading and computer driven algorithms can add a level of panic to any sell-off. There was a point where the Dow Jones was down 500 then 700 then 1000 in what seemed like seconds. Suddenly, we were sitting at 1500 below open and things looked grim. I’m sure many people, myself included asked if it’ll keep going.

Today it didn’t. A few minutes later, the downturn turned around and people started buying again. The 1500 reduction turned to 800 but then fell again closing down nearly 1200 points or 4.6%. The S&P 500 was down over 110 points or 4.1%.

If you have a ~500k portfolio like me then you’re talking a daily loss of around 20k. Anyone with a one million portfolio would lose double that. The bigger the numbers, the larger the feeling of loss.

Those numbers aren’t easy to ignore but again it’s important to put them in perspective. My 500k portfolio may have lost 20k today but it’s gained more than 20k since December 25th. The pain of loss stings but it’s important to remember such things if you want to be a successful investor.

Stocks are a long term game. They are not going to go up all the time and can often drop quickly.

If this worries you, makes you stay up at night or forces you to sell then it’s time to re-asses your investment style. It’s time to see if the level of risk in your portfolio is right for your temperament. Stocks are risky, they’re volatile and they can lead to losses especially in the short term. A 100% stock allocation has historically seen a max reduction of 50%. Adding bonds can reduce that significantly.

This is the reality of the stock market. It doesn’t always go up and it certainly doesn’t telegraph where it’s going. It’s hard to tell what caused this recent dip. There wasn’t anything outwardly obvious. Sure valuations are stretched and there’s some political question marks but nothing different than what we’ve seen for a while. Was it partly due to a flash crash or was it just a change in market sentiment and rising interest rates?

Is this the start of a stock market crash or a correction? I certainly don’t know and you probably don’t either. The short term performance of the market is a question mark. That much is clear. It may go up tomorrow or it may go down for weeks. Is it time to sell or is it time to buy? I don’t know.

What I know is that the long term history of the stock market is clear. The trend is up and the successful long term investor is able to ignore days like today just as easily as many seem to ignore the bull market of the past 10 years. They buy when stocks are up and they buy when stocks are down.

The weeks ahead may be painful and ugly but if you’re in this for the long term and believe in the companies and index funds you have then you’ll do well in the long run. Stay the course and know that time in the market is the key to successful long term returns.