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Five things to remember after the FTSE’s latest fall

Don’t be unseated by the stock market’s ups and downs

Thursday’s 4.7% fall in the FTSE 100 is the largest one day loss since the collapse of Lehman Brothers. I don’t have the record books to hand, but I’d guess it would be a top 20 Top of The Drops contender.

Ouch! Still, you don’t expect me to write that the sky is falling, and I’m not about to do so. The sky certainly isn’t blue and sunny – but it will still be there tomorrow.

I’m conscious I always seem to write positively about the stock market, which might seem at worse insincere, and at best useless. Remember though my view that most investors in equities should have a long-term horizon (10 years or so) and that they should be properly diversified.

Furthermore, valuation is everything when it comes to risk in the market, not news headlines. Headlines can surely move markets, but they’re unpredictable. Over-priced shares will always get you in the end.

I’m in this for the long-term – investing, and this website. I fully expect to one day write here that I’m concerned shares have gotten too dear, and that I’m putting more money into bonds or cash.

But I don’t expect it to happen with less than five figures on the FTSE 100. I’m still very bullish on shares on a ten year view.

Here’s five more thing to keep in mind after the FTSE 100’s falls:

1. Sharp share price falls mean nothing

Over the long-term it might be bad if shares stayed depressed for years. Companies could find it hard to raise money, some investments would turn sour, and the appetite of individuals to invest for the future would be stultified.

Generally though, big share price rises and falls are innocuous. Compare a big swing in the FTSE 100 to the price of petrol soaring 20% at the pump, or house prices falling 20%, or salaries dropping 10%, or an inflation rate of 10%.

Those are numbers that matter much more, day-to-day.

2. Politicians don’t exist to please stock markets

I’m as skeptical about the political system as the next cynic, but the fact is politicians don’t exist to serve the market’s whims.

European politicians will eventually bungle through a solution for their troubled periphery, because the money is there to do so, and because failure would be far more costly. But they’ll do it via their usual protracted banter over the bouillabaisse.

Bond markets – and especially credit markets – are different. A breakdown in inter-bank lending, for instance, is definitely something politicians must help sort out. And this latest economic wobble has come with a dash of that thrown in.

But stock markets? Meh.

3. You should be focused on income

Most investors are best off targeting income not capital gains. Yes, I understand that one can sell a rising share price to harvest some gains, or that taxes may sometimes favor investing for rising prices over a regular yield. And long term total return is theoretically the only metric to judge an investment’s success by.

However most investors are far more scared of capital fluctuation than they let on, and most of them actually desire an income, too – usually in retirement, but sometimes as a second stream to spend on the good things in life.

And I doubt a single income investment trust has yet cut its dividend outlook as a result of these recent stock market gyrations. Trusts like City of London and Caledonia have raised their dividends every year for more than 40 years, through wars, strikes, recessions, and political scandals.

4. Most of us should welcome cheaper shares

Just because I say it all the time doesn’t mean it’s not true. Anyone investing for the future benefits from low prices today.

If you’re a young investor in your 20s and 30s, a fall in the FTSE 100 index back to 4,000 would be like your birthday and Christmas rolled into one.

Even if share prices don’t eventually rise far above their old highs (and I’m 99.9% sure they will, sooner or later) you can buy a lot more income when prices are low due to the relationship between price and dividend yield.

Make sure you’re diversified – a tracker is the best start for most of us – then sit back and reinvest the income into a falling market.

5. The time to act was yesterday

This is true of politicians, who should have been trimming budgets and paying off deficits in the last boom, rather than increasing spending like they did. Now we need the spending, we risk instead being caught in Keynes’ Paradox of Thrift, as everyone catches the frugality bug at exactly the wrong time.

It’s also true of European technocrats, who should have listened to all of us who derided the Euro as an accident waiting to happen before wheels came off.

It’s true of Central Banks and regulators. I know how rare I was warning against the global property bubble (the tail end of which you can catch among the first posts on this blog) because all my friends were buying houses and calling me an idiot. The boom was the time to dampen down credit supply and to regulate the banks, not now when we desperately need them to lend.

Finally, it’s true of us as investors. You should get your asset allocation right in calm times, not panic and wonder whether you should abandon equity investing during a slump. If you’re going to be retired in 15 years and know you’ll need an income, start thinking about the shift as you age, not six months before you get a gold clock and a P45.

Whatever your plan – even if it’s to hold no shares when you think the market is overvalued by some measure such as PE10 (though I wouldn’t recommend it) – you should be figuring out the details on a sunny Autumn day with a glass of Chablis, not when the news pundits are going bonkers.

Which brings me to…

6. Nobody knows, and nothing is certain

I said I had five reminders, and here’s a sixth. What d’ya know!

All those sage voices on the television telling you what the markets will do next haven’t got the foggiest, either. Nobody knows what will happen in the short-term.

I’d also argue nobody knows much about the long-term. To give just one example, even a few years ago the idea that China and India and Brazil could keep the global economy afloat wouldn’t have been ridiculous – it would probably not have been mentioned!

Now it’s apparently our greatest hope (especially as everyone has forgotten countries like the US and Germany are still growing…)

Equally, nationalised UK banks and Apple being the sometime largest company in the world weren’t on anybody’s radar a decade ago.

Do a little reading about the history of the stock market, and you’ll find pages – no, chapters, in fact entire books – that are nearly 100% wrong about what will happen next in economies and the markets!

Their authors weren’t incompetent, just over-confident. They forgot that nobody knows.

Stay safe. Stick to your long-term plan, seek diversification, keep an eye on valuations, save a lot more than you earn, and avoid excessive fees and costs.

Don’t let anyone be more responsible for your financial future than you. It’s not a guarantee that the market will go up next week, but it’s your best bet for being a lot better off in 20 years time.

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{ 9 comments… add one }
  • 1 ermine September 23, 2011, 11:43 am

    Don’t let anyone be more responsible for your financial future than you.

    That’s the killer line 🙂 There seems to an Ayn Rand-ian trend in the PF blogosphere at the moment, which I suppose is people bracing for impact. It’s disturbing because there’s a lot wrong with where she took that!

    You introduced me a while ago to Point 3 about income focus. Switching to income focus has vastly reduced my stress level regarding share investing. It can’t be recommended highly enough!

  • 2 DIY Investor September 23, 2011, 12:00 pm

    Agree 100% that young people have a great opportunity with stocks cheapening up. Unfortunately, many don’t see it that way. They’ll buy in later at higher prices.

  • 3 rustylargo September 23, 2011, 12:37 pm

    i am buying into the down cycle, but although today it shows losses ten minutes after the trade, i would rather that than miss the boat. it is my first foray into shares but i have no choice unless i want to graft into my 70’s. i am 75% divi 25% speculation, but ill draw on both if profits show

  • 4 Ben September 23, 2011, 12:59 pm

    wise words

    I’m halfway through Graham’s Book which is also helping me steady the psyche

    Started a SIPP this month, the timing of which is looking pretty good all things considered

    Its monthly cost pound averaging and rebalancing anually and lifestyling up the bond allocation every decade or so for me

    very much the ‘defensive’, saw this on the bbc and it made me shudder:
    why would he have such an exposure to equities so close to his retirement date?

    Quite a nice lesson to tuck away for the future though

  • 5 Ben September 23, 2011, 1:02 pm

    one other thing, checked through the numbers and I’m still comfortably ‘up’ on value to cost for my S&S ISA despite the recent market falls so things can’t be too bad ;-). Started it in April 2009.

  • 6 pkora94 September 23, 2011, 8:53 pm

    would be interested in monevator`s views on fixing the european crisis. i would get brazil, india china us russia uk europe etc, to print money in equal proportions and buy up all the debts. The countries involved get a yield lending to the debted nations with no outlay, as money is printed. There should be no net depreciation of currencies as virtually all major currencies print money at the same level. At the same time liquidity is stored and a deflation shock is aborted. …
    Asian countries i think can not print money but as a one off may be worth it as just europe printing money like america on its own might annoy a lot of people.

  • 7 The Money Grower September 24, 2011, 9:43 am

    Hello Mr Monevator

    A reasoned call for calm – and one I completely agree with.

    @ DIY Investor – agreed. I’m currently helping a mid twenties friend to start a portfolio. My friend is not particularly interested in the stockmarket but is savvy enough to know it’s a worthwhile endeavour.

    Whilst she gets on with her life, her monthly DD are quietly buying her cut price units in some very undervalued companies.


  • 8 The Investor September 24, 2011, 11:18 am

    @ermine — Glad it helped! It doesn’t always work (just ask all those who piled into ‘safe’ banking blue chips for yield a few years ago) but along with other principles, particularly diversification, I think the income focus is right for most people.

    @DIYInvestor — Bizarre, isn’t it? I think I must have been born contrarian. I’ve not been able to buy a house in London for years because of *rising* prices! That’s almost as bad a trait, mind, and I’m using the lesson to hang on longer with rising shares…

    @rustylargo — Good luck! Have a plan and stick to it, I say.

    @Ben — Good stuff and thanks for the BBC link idea, I’ve added it to Weekend Reading this morning!

    @pkora — In my view the European crisis is entirely political, and as I allude above its a natural extension of the schlocky ill-considered (or willfully ignorant) foundations the Euro was built on. There’s no funding crisis, German bunds are still very low yielding, and Germany can easily solve Greece’s funding problems. The issue is integration — we don’t have a ‘Tyneside crisis’ now or a ‘Northern Irish Pound’ crisis 25 years ago because we’re genuinely integrated.

    The solution in my view therefore is deeper integration or bust. Getting money from overseas might help short-term but this will just happen again in the long-term unless there’s structural and political reform. Politicians want the markets to treat Europe as a common, unified block — well, they better create one.

  • 9 Salis Grano September 24, 2011, 6:38 pm

    As WB said, investing is largely a matter of having a steady temperament, not great intelligence. Calm and staged buying through a bear market is the way forward for most of us. Always good to concentrate on income and try to forget the falling net worth.

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