Buy the dip? No. Dollar-cost average? Maybe. This is a case study in second-level thinking.
Responding to the COVID crash
You were 44 years old. It was Apr 1, 2020, and in March, the stock market crashed. The S&P 500 stood at 2,470. It was down 20% from its high four months earlier.
You knew stocks offered the best return, and it’s exciting to get them on the cheap. In fact, in the last 10 years, the S&P grew by 3.5X. The market had become inflated. Many were calling it a bubble. Finally, a buying opportunity…
You moved some cash and bond funds into stock funds. It wasn’t extreme…enough to get your stock allocation back up to 80%.
- You bought the dip.
- Your target date fund made life even easier. The fund automatically bought more of its stock index fund.
- You continued to save monthly and dollar-cost average.
Well done! As of this writing in March 2023, the S&P 500 index has just eclipsed 4,000 for a 3-year return of more than 60%. You’re now 47 years old and riding high.
Let’s repeat the story, but with the Dow
You were 44 years old. It was September and in January, the stock market crashed. The Dow Jones Industrial Average (the Dow) was down 23% from its high eight months earlier.
You knew stocks offered the best return, and it’s exciting to get them on the cheap. In fact, in the last 20 years, the Dow grew by 5X. The market had become inflated. Many were calling it a bubble. Finally, a buying opportunity…
You moved some cash and bond funds into stock funds. It wasn’t extreme…enough to get your stock allocation back up to 80%.
- You bought the dip.
- You continued to save monthly and dollar-cost average.
But wait, this was 1966!
- There was no such thing as a target date fund.
The differences continued.
This was September 1966 and in January 1966, the stock market started tumbling. The Dow now stood at 7,083.
Ready for a rebound?
Unfortunately, no:
- 16 years later, in July 1982, the Dow stood at 2,480 for a negative 65% return. You turned 60 years old.
- 27 years later, in February 1993, the Dow finally crossed above 7,000 again for a 0% return. You turned 71 years old.
Really? Yes! Humans have a difficult time remembering the distant past.
Revisiting conventional wisdom
I’m not cherry-picking this scenario, unfortunately. Assume you joined the workforce in 1943, and you too invested your lifetime savings in the Dow. Your return over the next 40 years -your entire working career- was 1%.
- Dow in June 1943 - 2,451
- Dow in July 1982 - 2,480
Thank goodness for pensions.
Imagine your 60-year-old self in 1982. You started work at 20 years old in 1943. You earned 1% in the stock market over your entire 40-year career.
What was conventional wisdom then?
It’s easy: “Do not invest in the stock market!”
- “Do not buy the dip”
- “Do not dollar-cost average into a no-growth investment”
- “I don’t know what a target date fund is?! But if it has to do with stocks, I don’t want one!”
The crazy thing? Using 1982 conventional wisdom, you would have missed out on 40 years of incredible gains in U.S. stocks.
What to do?
Here’s what I recommend
1) Refresh your study of second-level thinking.
Ignore sound bites and look for the more nuanced, deeper truths.
- I started this post with two 44-year-olds. Each responded similarly to a ~20% drop in the stock market. The results varied wildly.
- We’ve learned that conventional wisdom has a short memory. Today’s conventional wisdom about buying the dip, dollar-cost averaging, and target date funds could be off base.
Be wary of what you want to believe!
2) Pose some questions.
In the year 2023, are we in a 1982 situation? Or is it more like 1966? When will we recover? Will it take 27 years? Will U.S. stocks continue to be dominant? Is there something else? How would I handle a stock market return of 0% over 10 years or longer?
Consider that we are sitting on 40 years of U.S. stock market growth since 1982 (when I was 6 years old!).
3) Next, answer all the prior questions with “I don’t know”.
I don’t know what the future holds. Nor does anyone else (without getting lucky).
4) Devise an investing strategy that gives us options and allows those options to flex as financial conditions change.
Hint: it’s Fast Follow Investing.
My main takeaway for you: Think twice. We are so very colored by our past, especially our recent past. It’s another one of those human biases that we need to overcome!
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What is Fast Follow Investing?
- Start with buy & hold passive indexing.
- Then, 1) expand beyond stocks and bonds and 2) cut off severe market losses at the knees.
- Grow your lifetime savings at 12% to enjoy a 5% forever rate of withdrawal in retirement.
- Fast Follow Investing (based on Tactical Asset Allocation) is finally here for small investors like you and me.
So join me!
