I am now in the midst of my third career bear market. I have memories of what I think I did in the past two but our minds play tricks on us. So I went back twenty years into my investment records in Quicken to uncover the truth. Here is what I found and the lessons I have learned for surviving market turmoils.
Let me first share a little of my investing habits. Since I started my career, I have saved regularly into a 401(k). That is, I dollar-cost average. I also have made no loans or withdrawals from my 401(k). Until I got older, almost all of my savings went into equities. (When I refer to "savings," I mean money that my wife and I do not intend to use until after we have retired.)
I have managed mine and my wife's life savings as a single unit, regularly reallocating our total savings to a set mix of fixed income and equity securities. Until we were in our forties, almost all of our savings were in equities.
Over many years, we have slowly increased our allocation of fixed income to over 40%. Regardless of market swings, I have stayed close to whatever allocation we have agreed to, reallocating whenever we have strayed from our goal.
Because of job changes, most of our savings are with Charles Schwab, invested mostly in indexed funds plus some individual securities. We have a joint taxable brokerage account plus separate traditional and Roth IRAs for each of us.
My first bear market was the dotcom bubble that burst in early 2000, wiping out over half of the U.S. market value over nearly three long years, based on the S&P 500 index.
My second bear market was the Great Recession, which almost unbelievably was worse yet. In exactly 15 months, the S&P 500 lost 57%. But we survived both, not because I can pick good stocks and not because we are lucky but because of how we invested along the way and how we responded when the market dropped.
(Please note that all market value and S&P 500 figures refer to the S&P 500 index, excluding dividends. All references to our returns include dividends and all securities, including fixed income. My point is not to compare how our equities did with the market but to suggest how you can invest your money without taking extraordinary risks.)
At the start of the dotcom crash in 2000, we had three small kids. We had our savings allocated into 19% bonds and 81% equities on March 24, 2000, when the S&P 500 started its slow descent.
But I continued my regular 401(k) contributions through this terrible time. I also regularly reallocated back to my 20/80 fixed income/equities allocation. This required that I sell bonds that were doing fine and use the proceeds to purchase falling equities, a tough discipline. At the market's low point, we had 82% invested in equities.
During this bear market, I averaged losing about 16% per year. But if I ignore the monthly, weekly or even daily noise, and instead only look at year-end values for 2000, 2001 and 2002, we averaged losing less than 11% per calendar year for three years, or a total of 29%. This is primarily because we maintained a set allocation of equities and continued to make new contributions into equities.
This is far better than the 51% the S&P 500 lost from top to bottom. When considering a lifetime of saving, for most of us this is occasionally acceptable.
Bear markets do end, and from the market lows of 2002 the S&P 500 nearly doubled over the next five years. During those years, our total returns, including fixed income investments, actually outperformed the S&P 500. This was primarily because of international equities that performed very well, another allocation that can help to keep your total returns from swinging widely with the S&P 500.
But bull markets end, too. The Great Recession started in late 2007, and was brutal for investors. The S&P 500 lost 57% of its value in less than 18 months and our equities did about the same. Coming into the bear market, because of our ages we had increased our allocation of fixed income. Even with these fixed income holdings, which were also pummeled, top to bottom we lost 43% of everything we had saved over decades, a sobering loss.
Again, this isn't the complete story. The market rose for most of 2007, dropped significantly in 2008, and early in 2009 started a steep rise. So if I continue to ignore the monthly, weekly and daily noise, while the market gyrated dramatically, we lost less than 1% during the total of these three calendar years.
Yes, that is correct. Rather than the huge loss that the S&P 500 experienced top to bottom, we instead did not gain or lose much over three years, which is very acceptable. Keeping a larger perspective can be critical to good investing.
And as it did in 2002, the terrible lows in early 2009 were the start of the longest bull run in U.S. history that ran into early 2020. During these eleven years, the S&P 500 went up five times (plus dividends). And although we had a higher allocation to fixed income, we still averaged 10% per year return for 11 years, nearly tripling our savings.
So, what have we learned? Based on my sample size of two, I suggest the following for this and any other bear market. First, any money you may need for the next five years should be in cash or other fixed income securities. Markets can fall fast and recover slowly.
Second, agree to an allocation that you can live with over several years, regardless of market turmoil. I also urge you to keep at least half of the money you do not need for the next several years in equities, regardless of your age or circumstances. Then reallocate your current portfolio to this allocation and stay at this allocation for years, regardless of market changes.
Third, if you are working, continue to save and dollar cost average, preferably into equities. And do this regardless of what the market pundits report with every rise or fall in the Dow Jones. CNBC and Fox Business News provide you with little useful information. If you want to know more about how to manage your investments, read an investment book.
Good luck. Stay calm. There’s little magic with investing. It's mostly a little education and a heavy dose of emotional control.