The stock market has put in a strong performance over the first three months of 2012, but many people are still sitting on the sidelines.
From the Marketwatch.com story, "U.S. stock market's rise leaves many behind":
Data suggest it has been primarily the retail investor that has remained on the sidelines as the (Standard & Poor's 500 index) marked the start of the bull market’s fourth year by targeting, and then overtaking, 1,400 -- a level not hit since 2008.
According to the story, trading volumes are well beneath those of the first quarter last year, and more money has left domestic equity mutual funds in the past 10 months than has gone in.
Equity exchange-traded funds, or ETFs, have taken up some of the slack but not necessarily from average retail investors, according to Marketwatch.
The sidelines aren't that safe
Investing can be nerve-wracking, but not investing can be as risky. The opportunity cost of staying out of the market can hamstring your retirement plan as effectively as a fierce bear market, particularly at today's low interest rates. The perception of safety is extremely expensive.
While the stock market has been anything but smooth sailing, it's technically been a bull market since 2009.
Earlier this month, there was a glut of headlines announcing the three-year anniversary of the equity bull market while simultaneously questioning whether we were actually in the midst of a second bull market following the dip that began in April 2011. For instance, a Los Angeles Times story on March 9, "The bull market is 3 years old -- or maybe not," made that point.
"… Believers in the new-bull theory point out that the S&P did fall more than 20 percent on an intra-day basis and that other sectors -- small-caps, mid-caps and emerging-market stocks -- all fell more than 25 percent," according to the Los Angeles Times story.
A bear market is indicated after a 20 percent decline over a period of at least 2 months.
For average investors, I think this may be splitting hairs. When it comes to long-term goals such as retirement, many bull and bear markets are going to come and go. The important thing is to stick with your investing plan.
There's a veritable mountain of evidence that shows sticking with it through all sorts of markets will lead to better outcomes than trying to time the market.
Case in point, the controversial yet oft-cited fact that missing the best days in the stock market can significantly reduce returns. The other side of that coin is that missing the worst days would significantly help your returns.
If you could get only the good days and miss the bad days, well then, you'd be doing great.
Unfortunately, it's really difficult to pick those particular days without the 20/20 benefit of hindsight.
According to a paper by investment services giant Vanguard, "We believe #8: Market-timing and performance-chasing are losing strategies":
Over the 15-year period through 2005, a buy-and-hold investor in the S&P 500 would have realized an average annual return of approximately 11.5 percent. By contrast, an unlucky market-timer who missed only the market’s ten best days during that 15-year period would have earned an average annual return of just 8.1 percent.
With many investors still sitting on the sidelines -- either three years into a bull market or in the middle of a second one -- more than the market's ten best days have been missed.
Life is much more risky
I heard something this week that really crystallized how irrational we can be about taking risks with money versus everything else in life.
I recently interviewed behavioral finance researcher Meir Statman for an upcoming story, and we got on the subject of risk aversion.
"Young people cannot say I'm not going to take any risks, I'll just put my money in a money market account. That may be safe but will not get you to any reasonable financial goals," says Statman, a professor of finance at the Leavey School of Business at Santa Clara University and author of "What investors really want: Know what drives investor behavior and make better financial decisions."
"If you tell me that the stock market is risky, I would say 'have you considered marriage and having kids?' If you consider these decisions, you realize that they are much more risky than a 50 percent decline in the stock market," Statman says.
There are so many really perilous decisions to make over the course of a week, a year or a lifetime that being nervous about the stock market pales in comparison -- with the caveat that you have a solid financial plan that reasonably mitigates risks.
Putting your life savings into one penny stock is foolishly risky but buying the market through index funds is much less so.
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