Am I Too Gloomy?

Max Jonet: ‘I must say your writing sometimes makes a chap feel that you’re too late starting if you’re beginning to invest after the age of 22, let alone 63. Because one has to factor in that all might not go smoothly, so after 22 you’re not armed against the land mines of life with enough time.’

☞ Oops. Then I’ll have to lighten up! How’s this: I think the NASDAQ, at 1600 or so, down from 5200 two years ago, is a lot closer to a bottom, if it hasn’t found one already, than to a top. Still, it was 1250 on December 5, 1996, when Alan Greenspan made his famous ‘irrational exuberance’ remark . . . so anyone expecting it to snap back to 5200 anytime soon will be sorely disappointed. It’s likely to take about 15 years, give or take. (That’s how long it would take compounding at 8% from here; 24 years, if it compounded at 5%.) But that’s not so bad. The sun will come out tomorrow (as noted yesterday). And for those young enough to be putting new money into the market every month or quarter, thunderstorms along the way – even hurricanes – are simply a welcome opportunity to buy shares cheaper.

And at whatever rate it will have compounded by the time it hits 5200 again, it will not be a constant rate. Say it does take 24 years . . . mathematically, to climb from 1600 to 5200 in 24 years is to compound at 5%. But you can also get there with a 50% drop next year – to take just one attention-grabbing example – and then compounding at 8.5% for 23 years. Whether it takes 15 years or 24, or some other number, there will be sharp dips and spikes along the way. For the steady periodic investor, this improves his return. The classic example: buy $1000 of a stock at $10 a share, then at $5, then at $15, and finally at $10. Have you just broken even with these four $1,000 investments? The stock is where it started, and that’s what intuition would tell you. But because you bought more shares with your $1,000 at $5 and fewer at $15, you actually wind up not with $4,000, at the end of this example, but $4,666. We call this ‘dollar cost averaging.’ It emphasizes the importance of steady periodic investing – and especially of not giving up when the market falls. That’s the worst time to give up.