This article is not intended to be financial advice specific to your particular circumstances.
Written by Scott Tindle, CFA March 24, 2020
Is now the time to buy stocks?
My answer to this question is the same as it was prior to this recent market selloff: it depends on your time horizon.
If you are likely to need the money in the next few years, like to buy a new house, then I would always advocate staying away from investing it in the stock market.
If you don’t plan to spend the money in, say, at least 10 years, then buying stocks is likely a very good idea. So, a younger person with a pension should probably have a very high proportion in stocks.
If your timeframe is 3-10 years, then it may be sensible to use a portion of your savings to buy stocks – but it depends on your other circumstances as well.
Why are stocks thought to be good long-term investments? If you buy a relatively large number of stocks then you are exposing yourself to the overall economy. There is an extremely high likelihood that the value of the economy will continue to increase over the long-term.
This is partly because humans are a generally productive being: we invented the wheel, which led to the train, which led to factories, which led to making better stuff (like medical equipment) – and which will lead, in the coming decade, to a powerful ‘internet of things’ that will continue to gradually improve the productivity of the human species. Buying stocks is partly a long-term bet on that productivity continuing to improve.
But buying stocks has also been a good idea because the value of cash has always gone down over the long-term. A Kit Kat cost 25p in the 1980s; it now costs £1. The company that sells the Kit Kat has seen its revenue increase fourfold, yet it’s still selling the same chocolate bar. Over the long-term, you want to be on the team that’s selling the Kit Kats, not the team that’s held onto their 25p.
By owning stocks of a diversified array of companies you are, effectively, on the Kit Kat team – and you’re backed by centuries of human productivity.
Ok, but really, is right now a good time to buy stocks?
Well it’s certainly a better time than it was a month ago. And a better time than at any point in the last 3-4 years. This is partly due to the economic shock of the coronavirus; most companies will undoubtedly make less money in the next few years than previously expected.
But the selloff is also due to the structure of the market; there are far more complicated things that can be done within financial markets than simply buy stocks. Most of these actions involve some form of ‘investing’ (perhaps more accurately termed ‘betting’) with borrowed money.
If big Jim over there lent you £100 as you sauntered into Paddy Power on the first day of the Cheltenham Festival, he might ask for your watch as a bit of collateral on the loan. If you start losing big Jim’s money, Jim might demand you give him back what’s left of his money. He’d also sell your watch in order to recoup his loan. And that’s what’s been happening in financial markets: as traders have lost money they borrowed, they have been forced to sell what they still own, thus pushing prices lower and lower. Meanwhile, the financial market equivalents of big Jim have been selling what they took as collateral – and the price of most investments, including stocks, have been hammered as a result.
The story of the gambler and big Jim has very little relevance to a long-term investor in stocks, except that these moments of ‘liquidity’ panics (when people need to sell investments to generate cash) have historically created attractive entry points for long-term owners of stocks. I believe we are in one of those moments right now.
How do I know that stocks are right for me?
The decision whether or not to buy stocks – and how much to buy – should begin with a financial planning process. This process should answer, among other things, the question of your timeframe. For example, are you talking about a pot of money, like a pension, that you can’t touch for twenty years anyway, or you talking about money that might be used for a bigger house or private education? Or, if you’re older, perhaps you are considering how your investments can pay for your standard of living for the rest of your life – as well as, perhaps, considering how to invest savings that you intend to pass on to future generations.
By going through the financial planning process you determine whether you would truly be investing for the long-term if you were to buy stocks today. Having such a plan before making any investment decisions is, by far, the best guidance that I can give right now.
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