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A lot of stock market experts are concerned that the market is overheated and ripe for a new bear market.
One of those expecting a bear market is Shawn Williams of Motley Fool, who wrote a May 8, 2021, post, "A case is mounting for a big drop in the stock market." The article cited statistics that in the previous eight bear markets before last year's pandemic crash, the market has suffered at least one double-digit correction within three years of the bear-market bottom.
I can’t say this statistic leaves me terribly frightened. The bottom of the last bear market was March 23, 2020. A 12.5% chance that we have a pullback of over 10% (meaning an 87.5% chance of a pullback of under 10%) probably is more encouraging to invest in the market rather than pull out.
The article does give a statistic that is more concerning, noting that the market is at historic price levels, with a Shiller price-to-earnings ratio of 37.53, which is double its average. The four times in history the index went over 30, there was a price decline of 20% to 89%. Williams concluded that "…there's a very real possibility a stock market crash is coming."
He is right. I would go one step further and say a stock market crash is coming. That is undisputable. The market has averaged a double-digit decline (a crash) every two years since 1950. Crashes are normal and to be expected.
For long-term investors, stock market crashes are not to be feared. According to an article in Forbes on April 2, 2021, "Bear Market And Bull Market: What’s The Difference?" the average bear market lasts only 10 months. The average bull market lasts 31 months. The real risk isn’t riding out a bear market; it’s missing the next bull market.
Investment advisor Lee Munson, president and CIO of Portfolio Wealth Advisors, emphasized the risk of missing a bull market to me recently, saying, "We fear melt-downs so much, the risk of a melt-up is never part of the equation for a value or logical investor; it should be." He continued, "While my logical side can show you a hundred charts of why markets are ready to correct, my time horizon is long term at the core."
Tim Maurer, director of advisor development at Buckingham Wealth Advisors, looks at staying the course in the stock market from another angle in a May 9, 2021, Forbes article. "A balanced portfolio that might have a 6% expected rate of return annually will likely never return exactly 6%. It might return 7% one year, 15% the next, and -8% in the following." He argues that selling out one's portfolio when it hit or exceeded the expected long-term return, while working in some short-term instances, would probably give a "…net result over time that would be a much lower expected rate of return that likely wouldn’t support your income goals. In other words, we need the great years to offset the not-so-great years in order to reasonably expect a good long-term rate of return."
The best long-term investment strategy is to establish a diversified portfolio with five or more asset classes, select an allocation of those asset classes that is appropriate for you, rebalance the portfolio at least once a year, and keep your hands off it in the meantime.
It’s the keeping your hands off it that is the huge emotional challenge. Maybe your best move to prepare for the next market crash would be meeting with your financial planner or a financial therapist to deal with your emotions. It could be the best investment you ever make.
Rick Kahler, MS, CFP®, CFT-I™, ChFC, CCIM, is founder of Kahler Financial Group, a Rapid City, SD-based fee-only Registered Investment Advisor.
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Advisor Perspectives welcomes guest contributions. The views presented here do not necessarily represent those of Advisor Perspectives.
