Financial Guide to Worldwide Pandemic (Part 1 of 4: What to Do If You Are Scared)

Let’s go ahead and hit the reset button on 2020. We went from a new year, new me to new year, where’s all the TP? (I got dad jokes for days)

But for real we are in a very serious situation. A global flu pandemic is now causing a global economic slowdown as well as a stock market correction. Uncertainty is extremely high right now and is causing a whirlwind of emotions for people. Some are scared or nervous watching their 401k account balance drop or maybe even worried about losing a job. Some are hyped up on a potential buying opportunity in stocks. Others might be just all-around confused about what the hell is going on.

For the better part of 8 years, I have spent an abnormal amount of time reading, listening, watching, and learning everything I can about personal finance, economics, and investing. What I am hoping to do in this 4 part series is distill everything down to hopefully provide some context and give some strategies to get through this depending on where you are at mentally in this whole thing.

• Part 1: What to Do If You Are Scared
• Part 2: What to Do If You Are Worried About A Job Loss
• Part 3: What To Do If You Are Wanting To Excited About Buying Stocks
• Part 4: My Personal Views on The Market And Plans During This Time

What to Do If The Market Is Causing You Stress

First off, this is a very natural and valid way to feel. I see many people that just shout at people who say they are scared with a simple “DON’T PANIC”. I’m pretty sure telling someone not to panic has never actually resulted in them not panicking. Watching your account balance go down by thousands and maybe tens or hundreds of thousands (if you are so lucky) is enough to make even the strongest stomach turn. This may be the first true economic downturn that millennials have been active investors in and there is a huge difference between watching The Big Short and being in the middle of one. With that being said, we need to try to put on our rational cap and think through what we should do.

Market Drops Are Scary, But Common

Okay, so our accounts are down. At the time of writing this on March 19th, 2020, the market is down around 30% off its recent highs. Now, of course, your account may have done better or worse than that depending on what you are invested in. While this type of move is large in terms of daily moves, it is quite common when we look at market history. Below we can see that a move of 20% or more happens about once every 6ish years.

The last move of this magnitude was back in the financial crisis over 10 years ago. It is likely we will see three or more moves of this size before we retire. So this is fairly normal when it comes to historical markets, but that doesn’t make it less scary! When the drop happens everyone picks up on it. Everyone is talking about it and it’s almost hard to escape. This is mostly because the drops tend to be sharp and quick yet the rises tend to be more gradual over time. Invesco put together the great chart below to put things in perspective.

It’s easy to see that the market runs after the crashes dwarf the downturns both in scale and in the length of time. Below we see some stats around this.

The good news is that bear markets are about 20% of the length of the average bull market and the drop is only about a quarter of the average gain of bull markets! Even more than that, the average 12-month return following a market “trough” or low point is a whopping 55%.

So let’s review, market crashes are fairly common from a historical standpoint and tend to be much shorter and less intense than the average bull market. Then once we find the bottom, we see a relatively large move upwards in the next 12 months. What if we just move to cash during the crash and then jump back in when it turns? That is the crux of the problem with making investment moves during a market crisis. It is impossible to predict the future so there is no way of knowing when the bottom is and when we should jump back in. These moves are not smooth. As we have seen during this past week the market has jumped back and forth 5%+ daily. There is uncertainty all around us and no one has any clue how this is going to land in the short term. Studies show we are exceedingly terrible at this sort of timing and almost always hurt ourselves more than we help. So if you sell your investments during the drop you risk not getting back in during the greatest time to be invested! Plus you miss out on the power of dollar-cost averaging during the drop which we will go through next.

Why Investing Continuously During The Crisis

Dollar-cost averaging is one of our greatest superpowers during these times. Let's use an example. Let's say you have $1,000 every month that you can invest in JB Investments. Currently, the price of JB Investments is $10. For $1000 you can buy 100 shares. Now let's say the next month right before you put your money in the price drops by 30% to $7.70/share. You now have $770 in your account. A huge drop by any measure. First, let’s see what your performance looks like if you just hold off until the price comes back. When the price comes back to $10 per share the next month and then they buy $2000 worth. Now we have 300 shares of JB Investments in their account and managed to avoid a loss and break-even:

Now let’s look at what happens if you just have your $1000 per month automated to invest in JB Investments. After the share price drops $7.70 you invest your $1000. That means your $1000 would have bought you about 130 shares. Now when the price comes back to $10/share you put in your other $1000 and now you are holding a total of 330 shares so you would have about $3300 in your account. A total gain of $300 over the other person who waited!

The reason for this is we were about to buy JB Investments during the down month at a 30% discount. Even though we invest the same dollar amount every month, we can scale into our investments over time during the ups and downs. This will lower our overall cost that we enter the investment and enhance the returns without having to put more money in. Your average entry price is $9.09 vs the $10 before. Over time this will mean we can compound at a high rate than if we had held out.

This is the current situation we are in. With the markets down, every dollar we put in is buying more shares of the investments we choose than it did just a couple of weeks ago. When markets do their return as we showed above, we have scaled our costs lower and can take advantage of those returns.

This also shows the importance of automated investing. Many of us have our 401k contributions come directly out of each paycheck and have are investments preselected. So all we need to do is…nothing! We just literally need to leave everything alone and can take advantage of this effect.

What Does All This Mean

Let’s review the major points:

1. Watching our account values drop sucks and most likely reading this article won’t change that. But when it comes to money, we need to think our way through it.
2. Market downturns are fairly common in investing history. This past market run has lasted for over 10 years and has been a great run.
3. Market downturns tend to be quick and sharp while market runs are gradual, but the scale of the market run is far greater than the downturn which results in an overall gain in the stock market over time.
4. Investing automatically through the downturn allows us to lower our overall cost as we get to buy more shares in the market for every dollar we invest. When the market comes back this enhances our returns vs. if we held out.
5. The future is unpredictable. While we can use history as a reference, we can see that the durations and magnitudes of every drop are different. Studies show trying to time the market is a loser’s game. 

In almost every situation in life, when something bad is happening we have been conditioned to do something about it! In a bad relationship? Look for a way out! Stuck in a dead-end job? Start working towards a new career! See a building on fire? Run in the building and risk life and limb! Well maybe the last one would not be the best idea, but you get the picture.

This is why we are hardwired to suck at investing. We see our account balance down. Everything in the news is terrible. Every instinct in our body tells us that we need to do something! Should I sell? Maybe move to bonds? Probably just cash out the entire retirement and buy gold bars and ammo. As we’ve shown this is the exact wrong thing to do! The best thing we can do is stay invested and continue to buy regularly. Or as one of the best in the business put it below:

"My rule -- and it's good only about 99% of the time, so I have to be careful here -- when these crises come along, the best rule you can possibly follow is not "Don't stand there, do something," but "Don't do something, stand there!" - Jack Bogle, Founder of Vanguard and father of index investing

IIn the end, my best advice to you is that if you are stressed about the situation and feel the urge to sell, try as hard as you can not to look at your account, automate your contributions, and just let them ride. If you need someone to tell you NO when you have the urge to sell, please feel free to reach out.

In the next part, we will go over what to do if you feel that you are worried about a potential job loss and some strategies to help you through it.