January 18, 2016 Update

Well, what a rotten start to 2016 for investors. It just goes to show how investing in the stock market can be a precarious proposition especially if you are looking at short term gains. I last updated this post in early March 2015 (see below), just less than 10 months ago. Since that time, the Dow Jones has slipped from 18,133 to 15,988 (Jan 15). A drop of 11.8%. The ASX 200 is down some 18% and the FTSE is off by 16%. All are below their pre global financial crisis peaks (GFC) way back in 2007 – yes, nearly 10 years.

Armed with this knowledge, should it change your thinking? Only you can answer that question but there is further food for thought than just the numbers of of the various stock market indicators. For example you need to consider:

  • The income you require – Stocks have generated reasonably good income with tax benefits and this income is not shown in any of the indices
  • What alternatives do you have – Money in the bank is returning record low returns. Property investments have risen sharply and some say in a bubble. Property is always that easy to buy and difficult to use when you want some cash in a hurry, i.e. you cant sell a bathroom when you need some cash!
  • The time you need to be invested – Investing in stocks normally does well over the long term, but short term investing on which way the stock market will move is always a tricky and more akin to betting than investing.

Not too much has changed from the first time that I created this post and that should not come as a surprise, as we all know, the markets will go up and down, we just don’t know when.

March 6, 2015 Update – Please Read

This post has become very popular during 2013, even more so since the Dow Jones hit new peaks and closing at new highs in March 2013. As the stockmarkets around the world continue their upward trend, this information is more important than ever.

You shouldn’t get carried away with the  new found found enthusiasm for the stock market, just as you shouldn’t become disillusioned when it falls.  A couple of key points to always remember with the stock market:

  1. The stock market tends to rise by the staircase and falls with the elevator – Good gains can be wiped out very quickly
  2. For you to be 100% sure that now is the right time to buy, you need someone else just as convinced that now is the right time to sell. That’s how the market works, you need buyers and sellers

The rest of the post has not been changed other than minor changes to the numbers that occurred in Jan 2013.

Cheers and please read on.

Question – The world’s stock markets do appear more stable when compared to the last few years, so is this a time to get into the stockmarket?

Answer – It doesn’t matter if now is the right time, it depends if you have the right investment time frame and the right investment risk profile to invest in the stock market.

As we have witnessed over recent years, the stock market can be very volatile. It can fall in value and wipe out many years gains in a short space of time.

The markets did look cheap, a bargain you might say, but now they have risen. Below is a brief chart of three major stock market indices highlighting their peaks (highest valuation achieved) and their current valuations. The ‘Growth to Peak’ highlights the growth required from their current valuations to reach their previous peak.

Pre GFC Peak*  Feb 27, 2015 Change
Dow Jones (US) 14,198 18,133 +27.71%
ASX 200 (Aus) 6,829 5,929 -13.18%
FTSE 100 (UK) 6,731 6,947 +3.21%

 *Pre GFC Peaks: DOW - 09/10/2007, ASX - 01/11/2007, FTSE - 12/10/2007

If you take the view that stock markets always regain their losses and post new highs (history suggests this always happens), the Australian stock market looks attractive!

The Australian Market  will need to gain 15.18% to reach it’s previous peak. However, there are no guarantees that this will happen. For example, Japan’s stock market is still well off its peak that occurred in 1989!

The chart also highlights how tricky it is to make the right investment. By comparison, the Australian stock market is easily the one that is struggling. Yet Australia, unlike most of the western world, did not suffer a recession during the global financial crisis and the economy continues to look strong compared to the US and UK. Confusing isn’t it!

Back to the critical questions for you

Your investment time frame – If you need your funds for a short to medium term goal, such as buying a new house, the stock market can be very risky. Ideally, your time frame for the stock market should be in excess of five years.

Your investment risk profile – There are two key elements to your investment risk profile

  1. Your personality – ‘Can you sleep at night when stock markets are falling?’
  2. Can you afford the losses? (do you have the financial capacity to absorb losses)

As we saw in the global financial crisis, most people understood the basic premise of the investment risk associated with the stock market, i.e. Knowing that losses will occur. However, as the losses accumulated many investors couldn’t sleep at night and decided to sell, often at the wrong time.

We have also witnessed investors who were not financially prepared for a major downturn in the stock market. They didn’t have the financial capacity to withstand the losses. The most affected investors were those had borrowed funds for their investments (often referred to as margin loans). Many investors had to sell their shares at the worst possible time to repay the loans upon receiving a margin call from the bank.

If you have the time and you can afford to suffer losses, then the stock market could be a good option right now. Just be prepared for a rocky road. And never forget:

For you to buy a stock, you need a seller who believes it is a good time to sell!

Important – general advice only. You should always seek professional personal advice before investing.

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