The Stock Market. Big and Scary? Nope - It drives our i401k
Big, bad, Wall Street. Not really.
The ‘don’t blame me’ blurb: I am not a financial advisor, portfolio manager, or accountant. This is not tax or investment advice; it’s information to get you going. Please consult your trusty professional and do your due diligence. Carry-on!
Why are we talking about the stock market?
Using the stock market to create wealth is often misunderstood due to the hype in the media, which reports on daily or even yearly market moves. The problem is that short-term market moves do not matter in the long term. Combine that with the jibba-jabba of your next-door neighbor or a co-worker opining about the market, and people see the stock market as a risky game to play.
For long-term investors, it’s not a lose-it-all risk —
We need to ignore the noise.
The average return of the S&P 500 (the index of the top 500 U.S. companies) since 1945 has gone up around 10-11% every year. That’s the average over time. In some years, it may drop -15%; in other years, like 2023, it went up +26%.
The stock market drives the 7%-8% growth of our retirement i401k account Three-Fund Portfolio. The single or three-fund version contains thousands of U.S. and international companies, plus U.S. bonds sold in the stock market. Why do we use three funds? Read about it in the Three-Fund Portfolio section.
Psychology is a big part of being a good investor. That means being calm and knowledgeable when the market goes haywire and drops. The whole point of investing in an i401k and having money for the future is freedom, happiness, and security.
Famous investor Benjamin Graham:
"The investor's chief problem — and even his worst enemy — is likely to be himself.”
The stock market in a nutshell
On average, the US stock market goes up 2/3 of the time and down 1/3 of the time. Let that one sink in for a second. We are bombarded with all of the daily reporting and drama of market moves. It turns out that over time, the market simply goes up 2/3 of the time up and down 1/3. The market has an upward bias; over time, it goes up.
It’s NORMAL for the stock market to drop sometimes. As a result, your i401k balance will also fall. A good investor is comfortable with this, knowing it will rebound, but it could take time. It will still be a little uncomfortable, but we need to look long-term and relax.
No one, and I mean no one, can predict what the market will do next. That’s why in our i401k, we keep buying our funds every quarter. We are getting an average cost over the long term. When you hear or read some Wall Street analyst or pundit proclaim this or that, just grin and know they don’t really know. In 2023, pundits and many economists said we would have a recession. We didn’t, and the S&P 500 increased by 26%.
Our three-fund portfolio’s growth is based on the stock market and bond funds going up around 7% over long periods of time; I’m talking 20 to 30 years. In some years, the portfolio will make a 26% gain like it did in 2023. In some years, it could drop in value, but over long periods, it averages out. This growth is predictable over the long term.
The stock market is not the economy. It is forward-looking and does not always reflect the health of the economy. For example, the market may rise while the economy is still in bad shape. It seems crazy, right? This is because investors can see the light at the end of the tunnel or the reverse. They see trouble coming, and the market drops.
Never sell during a scary time. Never. Those who do always lose long-term. This is the classic mistake people make. They sell after the market drops when they’re scared. Then they wait for years on the sidelines until everything seems rosy and only then buy in again once the market has recovered, missing all of the gains. This is selling low and buying high. Never sell when you’re scared and will be at some point.
You have not lost money when your i401k drops in value. Your i401k went from $300,000 to $270,000 during a down market period. You still own the ETFs/funds with thousands of companies inside them; their price will rebound. You only actually lose money during a falling market if you sell. Hold fast. Buy more.
When we buy during a down period in the market, our regular ETFs and funds are on sale. Their price has dropped, and we get more shares of them than we would when the market and their price were up. Who doesn't love a sale?! We buy every quarter (every three months) no matter what in the Three-Fund i401k. Famous investor Warren Buffet once said, “Be greedy when others are fearful, and fearful when others are greedy.”
Compare your i401k’s portfolio to the market. If your portfolio went up +2% one year but the market (use SCHB or VTI as the market) dropped -3% that year, you did well. Don’t look at performance in isolation.
Emotion is unhelpful when investing. Don’t make decisions based on fear, greed, or confusion. Hold Fast. Stick to the plan.
Ignore all of these guys. They don’t make money by telling you how simple investing is long-term. Yeah Jim, the S&P 500 dropped 1.70% today. Who cares? It won't matter over your 20-30 year investment life.
Take a read of CFA, Ben Carlson’s (Certified Financial Advisor) post on Why The Stock Market is Not a Casino. Ben’s blog is interesting, no-bull, and called ‘A Wealth of Common Sense’ for a reason.
Traders vs Investors
I bet you can’t tell which one is the Trader and which is the Investor. Ain’t playing with AI images fun?
The market is used by sensible types looking long-term, but also by a bunch of cowboys running around doing stupid shit and at the same time calling themselves ‘the smart money.’ Some of the biggest headlines are caused by Traders blowing themselves up with risky bets. Trader or Investor; what’s the difference?
The Trader: Someone who buys and sells in the market in the short/medium term to take advantage of price movements, known as ‘market timing.’ This is risky and can often end in disaster. Time and time again, it’s been shown that this approach does not work. Price changes can never be accurately predicted. I mean, the group on Reddit most famous for meme stock trading is called ‘ Wall Street Bets,’ kinda obvious what they’re doing. Gambling!
The Investor: Investors have a longer-term focus and strategy; they are looking for steady gains and believe in the investments they purchase. They use time to become millionaires, not outrageous bets. Averaging 7-9% a year will make you millions over 20-30 years.
Check this out:
Invest $2,000/month in a Three-Fund Portfolio for 30 years, say age 25-55. Growing at 8% =
$2,700,000
Try the compound interest calculator here. The compounding effect is magic!
The above example is an investor. Long-term, steady. Nothing stupid. Time invested makes us rich, not trying to buy and sell the hottest thing.
We use low-cost ETFs (Exchange Traded Funds) and mutual funds that track the U.S. stock market, the International Stock market, and U.S. bonds. CNBC reported here how people are coming back to ‘lazy investing.’ Yes, in 2023, we crushed it. We did not market time and sell in the face of doom and gloom predictions about a coming recession. Instead, we kept buying every quarter as we always do. Our Vanguard Total Stock Market (VTI) ETF gained 24%. We captured all those gains because we stayed in and kept buying.
If you haven’t already, head to the i401k page and kick that off. It’s a massive tax deduction and a real wealth builder for freelancers and single-person businesses.
The wise, ye olde investor:
“It’s TIME in the market that matters, not timing the market.”
Stock Market Crashes
Let’s talk about the uncomfortable moments.
I’m not talking about when your Mom walks in on you and your first crush; I mean, when the stock market crashes.
They happen, and they make you feel kinda horrendous. Personally, I feel like I’m about to puke in my mouth a little. However, a good investor is ready for a drop and is calm when it happens, and it will happen.
A ‘correction’ is a 10% drop; they happen all the time. The market gets a little too pricey and then drops as investors get spooked, and all sell at the same time.
A ‘market crash’ is a 20% or more drop in a short period, like a day or a week, and happens occasionally. It could be a war, a big bank defaulting, or a killer virus. It WILL happen to you at some point, but it’s ok. Examples below.
If you’re nearing retirement (within 5-6 years), talk to a financial advisor and organize a plan. Why? If you’re nearing retirement, you will soon be moving to the spending stage of your i401k, where you begin to use it as an income source. In this case, you can’t wait years for the market to recover. You will most likely need to own more bonds or use other techniques for a secure income (along with social security and other assets you own, like real estate). My personal preference is an advisor who charges for their advice up front, an ‘advice-only advisor’ who creates a plan for you. Not an advisor wanting to charge you a percentage of your portfolio yearly or invest you in products they get paid by.
Examples of Stock Market Crashes and the Big Picture
Let’s look at the stock market crashes below that made people completely freak out at the time, then zoom out and look at the big picture. Why are we looking at past crashes? It’s for perspective, sure, but there is also one around the corner coming at us. Crashes happen and will continue, but they are just blips over a 30 40- year investment lifetime.
2008-2009 Financial Crisis Crash - a 50% market crash
Talk about pukey, Hank Paulson, Secretary of The Treasury at the time, wrote later that he dry heaved from the stress after a long night of meetings on the Hill trying to stave off total financial collapse; read about it here.
Above is a graph of the VTI—Vanguard Total Stock Market ETF. It has around 4,000 US companies inside it. When people use the term ‘The Market, ’ this is an example of what they mean: it’s the majority of companies in the U.S. stock market. VTI dropped from $70 to around $35. Yes, it fell around 50%. It was total brown trousers time!
If your i401k had a $150,000 balance, it probably would have dropped by 30-40% (not the entire 50% because you also owned bonds that dropped less), so it is now worth $90,000.
I know this looks bad, but keep reading.
2020 The Covid Crash - a 35% crash
Eleven years later, the world was ending again for a different reason, a truly terrifying one, as people were dying. VTI dropped from $170 to under $115, a 35% drop.
ME: In March 2020, I had money from selling a house and made a plan to buy more of our ETFs/funds every Monday morning for eight weeks during the crash. The plan was to take advantage of the lower prices of our funds and buy over eight weeks to get an average price during the market turmoil. The weekly buying on Monday took my emotions out of the decision-making process because it was scary. With a crashing market, people dying, and society locked down, some Mondays, it seemed insane to buy, but I kept going. Emotion is great for relationships and bad for investing.
As we know now, the market has rebounded faster than anyone would have guessed and has gone on to make massive gains. I didn’t know it would rebound that fast, but I did know it would over time.
The Big Picture
Now, let’s widen our view and look at VTI from 2002 to 2024. See the two red arrows? The stomach-churning stock market crashes of 2008 and 2020 now look like little blips along the way because they are just little blips. At the time, they were nasty, and you would have felt awful, but looking at them over 20 years, they were buying opportunities. Be scared, sure, but keep buying; never sell.
As sensible investors, we need to stay calm and look long-term. From 2002 to 2024, VTI made a 361% gain. If you had $300,000 invested in 2002 (and did not add any more funds or re-invest dividends), it would be worth around $1.38 million now.
When the market crashes and everyone, including those blabbing on TV, panics, you know better.
Think in ten, twenty, thirty-year time-frames. Not just a few years.
Jason Zweig, WSJ wrote: Brian Posner, an investor who had a distinguished career at Fidelity, Warburg Pincus and ClearBridge Investments:
In those cases, he suggests, a good signal that you’re on the right track is “wanting to throw up.”*¹
Photo: Drew Angerer - Getty
The statue ‘Fearless Girl’ on Wall Street - that’s us, Wall Street; we’re not scared.
Could it all go horribly wrong?
A war the size of World War II would cause massive disruption to a stock portfolio and i401k, but that might be the least of our problems. If the U.S. defaulted on its debt (the usual suspects in Congress messing with the debt ceiling), it would also create a total mess. Events like this could affect our 7% average annual gain goal.
The stock market has also had periods when it went sideways, such as 1969-77. The annualized gain (the average annual return) was only 3.4%, which was a terrible period for investors.
Yes, the market has had periods of sucking badly, but long term, it has been a total winner. If you didn’t read it above, read CFA Ben Carson’s post on Why the Stock Market is Not a Casino.
What are the alternatives to the stock market — Gold? Cash? Crypto?
They’re alternatives to the stock market, according to one of your co-workers. But are they? Really?
Inside an i401k, one alternative is to invest in cash using a money market fund or gold and Crypto ETFs. Unfortunately, cash won’t make much money over the long term, as shown below. In Crypto’s case, who the hell knows? Physical real estate is another alternative, but it is tricky to own inside an i401k. Outside of an i401k, real estate is potentially a good investment in a balanced total investment portfolio.
The value of $100 invested in 1928 by 2022 would equal*:
S&P 500 (stocks) including dividends reinvested - $100 became $624,534
Gold - $100 became $8,866
Cash - $100 became $2,140 (in a bank, earning interest.)
Crypto - Who knows with this one? It could go to zero, or you could get rich, maybe? Some advisors are having clients add crypto like Bitcoin to their accounts for diversification (stocks may drop for a while, while crypto may go up, for example). Personally, I’m not interested in crypto. Paraphrasing Warren Buffett, “I’m not going to buy an asset that is solely based on what the next guy will pay me for it.”
The point here? Being in the stock market long-term eats gold and cash’s lunch. Making a steady 7-8% a year is the way to go.
Don’t listen to the doomsayers and conspiracy nuts talking about the end of the world, the gold standard, or the end of the U.S. dollar as the world’s reserve currency.
Keep it simple and look at the stock market's historic long-term gains. Yes, there will be stomach-churning drops. Just hold fast and play the long game.
Scott Galloway, Professor of Marketing, NYU Stern:
“The good news is, I know how to get you rich. The bad news is the answer is slowly.”
Stay in the market. Invest in a Three-Fund Portfolio long-term, and keep calm.
*¹ WSJ Intelligent Investor article “What Our Brains Know About Stocks—but Won’t Tell Us”