We are in long bull market. You’d be hard pressed to find someone who disagrees. Since 2009, the S&P 500 has returned a positive growth annually each and every year. That’s nine of years of positive growth. There have been dips along the way but if you’ve invested significant sums in the stock market it’s hard not to feel good. A rising tide lifts all ships, so even active investors that might not be achieving the average market return is feeling good! What could go wrong?!
In situations like this, some people start talking about “late market thinking” (i.e. the attitudes adopted by investor’s when the stock market is doing nothing but going up).
One of those behaviors is CNBC articles screaming about how there’s a 70% chance of a market correction. This is laughable. I link to it only because they cite Vanguard as the source of the prediction. It’s still laughable. First, there’s a 100% chance of a market correction. We just don’t know when it will come. And knowing when it will come is the whole point. This is a fundamental problem with timing the market. Not only do you have to be right about the direction, you have to be right about when it will happen. The idea that CNBC or anybody knows when it will happen and can say that there’s a 70% chance of it happening at a predictable time is about as likely as predicting when the next F train will arrive (i.e. For people that don’t live near me, you can’t do it).
Despite this, I often see discussions about whether people should be moving assets out of the market until things cool off a bit. Everyone is saying the market is overheated. Shouldn’t you get out?? No. This particularly doesn’t make sense if you’re talking about retirement money. Assuming you are 20-30 years away from legit retirement, any correction in the market will be a distant memory by that point.
If it’s not retirement money … why exactly do you have it in the stock market? Is it part of your Investment Policy Statement? If so, you should continue to follow the short written plan you prepared.
If you’re talking about taking a small amount of money out of the market that you’ve earmarked for some short-term upcoming expense (vacation, remodel, new car purchase), I’d reevaluate why you put that money in the market in the first place. It’s easy to underestimate the behavioral risk of investing, particularly in good times, so I’d really like to drill down and understand why I made that decision.
It’s a funny thing about lawyers that we’re so risk-averse as to leave hundreds of thousands of dollars sitting in cash in a savings account but also comfortable putting $10K into the stock market for an upcoming bathroom remodel to try and juice the returns a bit.
I think a lot of this is driven by two factors: (1) FOMO (see, e.g., Bitcoin) and (2) getting such a late start in our careers and investing.
Let’s put aside FOMO and agree that it’s irrational.
It’s really getting such a late career start that could cause you to make investing mistakes. By virtue of three extra years of professional school and $200K of law school debt, most lawyers feel pretty far behind when they get started. The natural response to this “late start” is to overcompensate by taking on more risk. If you feel the need to catch up, then putting $10K into the market so you can purchase that new car might make sense.
Unfortunately, it’s a terrible idea.
No amount of market return will do the heavy lifting of actually saving a lot of money. Let’s say you have $10K and are trying to reach $15K by the end of the year. If the market has a bumper year, you might see a 10% return. That’ll get you to $11K which is still a full $4K short of your goal. And at what risk? Risk that we’ll hit a snag like 2000-2002 and you’ll see three consecutive years of losses. Sure, you can delay the new car purchase but why do that to yourself? You still need to save another $4K.
I think you’ll find greater success by actually saving up enough money for what you want to buy and leaving the stock market for the truly long term goals (10+ years). I know for sure we wouldn’t be having this conversation about eking out some minor return if we weren’t in the middle (or is it the beginning? or end?) of a long stock market run.
If you want to remember the chaos, find videos from 2009 on YouTube taking about the Great Recession. It’s helpful to look at those events in a disconnected way with so many years between then and now.
So, keep those short term funds in short term savings accounts and get to work saving money!
Joshua Holt is a practicing private equity M&A lawyer and the creator of Biglaw Investor. Josh couldn’t find a place where lawyers were talking about money, so he created it himself. He spends 10 minutes a month on Personal Capital keeping track of his money. He's also exploring real estate crowdfunding platforms like Fundrise which are open to both accredited and non-accredited investors.
I wonder, for those bathroom re-model type things, though, whether high-earning individuals like big-law attorneys aren’t better off investing them in the market.
I say that, because (presumably) most big-law attorneys (a) itemize, (b) have large taxable incomes, and (c) these “bathroom re-model” type expenses tend to be things that we want to do, but don’t have a firm deadline on.
Since markets generally go up, and we have protection on the downside in terms of being able to tax-loss harvest and deduct losses (thereby offsetting some of the sting of a loss with reduced taxable income), and we can always just push off a bathroom remodel an extra year or two…..why not invest it?
I’m taking the same approach to an eventual home purchase. We own our condo right now, and it works for us/we love it. But we know we want to move to a real house at some point soon….but we’re not sure when. And we have some flexibility around when we do that, so why not invest extra savings for the down payment (which will be supplemented by the sale proceeds of our current condo)?
I think it depends on why you’re taking the risk. If you’re taking the risk because you are comfortable with the possibility of a delayed purchase – i.e. you are happy to wait an additional 3-5 years to make a home purchase, kitchen remodel, etc. or the possibility of saving more money (and therefore losing out on some other consumption purchase) and that downside possibility is worth a possible 10% return on your investment then sure take the risk and see how it turns out.
But I think it begs the question: Why take the risk? 10% on a $10K kitchen remodel isn’t really a lot of money. Are you taking the risk because you need the return to meet your goals? Is it because of fear of missing out? Is it because you can’t stand to watch money sitting “idle”? There’s a lot of psychological reasons behind the decision that I think are worth exploring because they may not be totally rational.
From my own personal experience, I was much more likely to take the risk when I didn’t have the money and “needed” the market returns to meet the goal. What I think I learned along the way is: (1) the returns aren’t as meaningful as you think; (2) you just need to save more money and (3) volatility is real. Thankfully I remember 2008 quite well and it wasn’t fun to be invested in the markets then. I also had the good fortune of investing a small sum of money during the 2000 – 2003 period which had no business being in the market, so perhaps those two experiences have colored my perspective.
This bull market has lasted so long that it’s easy for an investor to forget that risk isn’t free. Going back to the $10K example, I can see mistakenly thinking that a 10% return is “free money” sitting around waiting to be collected. Investors truncate the statement “higher risk means a higher expected return” into “higher risk means higher return” without noticing that we’ve dropped the “expected” part.
So how much is the market up since Oct 2007? The SPY in Oct 2007 was 155. It took till Mar 2013 for the SPY to get back to 155. Therefore this is really a 4.5 year Bull and about a 5.5 year recovery. The real issue is Fed caused distortion. Credit, Bonds, and stocks are all 90% above the mean. This means we are likely to see a long period of 2-3% real returns as things regress to the mean. This is bad news if you’re FIREd unless your SWR is under 3%. I’m not blaming the Fed, I think they saved us from deflation but I think using this distortion scenario as a model is a better way to color the future than the usual CNBC boilerplate.
Nice use of the video, BigLaw! It definitely makes the potential of loss more “real” for those that had not previously experienced it. Those days are definitely fresh in my memory – hard to believe that they were 10 years ago. I also recall the tech boom and crash around 2000 – you had Amazon stock going from $100/share to $7/share – a 93% loss. If you want to see really scary charts, check out that time frame!
Thoughts on emergency savings in moderate risk target funds (e.g. 40/60 stock to bond ratio). I seem to recall that was a previous recommendation of yours. Is that distinguishable?
Yes. That’s exactly what I did. Most lawyers don’t need an emergency fund to cover short-term financial hiccups since they should be able to cover the cost of a car breakdown out of their cash flow (but, of course, if that’s not you then, by all means, build up an emergency fund). I felt comfortable knowing that 20% of my emergency fund could evaporate overnight.
Related: Is An Emergency Fund Necessary?