The recent volatility in the market has prompted some investors to question the future direction of the stock market. Unfortunately, the stock market is impacted by so many factors that it is impossible to predict short term movements. Over the long term, the stock market has always trended upwards but the path has been anything but smooth. We could be on the tipping point before a major correction or at the beginning of a long bull market – we just don’t know.
As a result of this uncertainty, it is impossible to effectively time the market. Not only do you need to accurately predict when to sell but you also need to know when to re-enter the market. Even if you select the right time to sell, there is a good chance you will be out of the market when it makes its next big move.
To compound this issue, decisions to buy and sell are frequently driven by short term emotional reactions. The fear of losing money can trigger us to make a sudden decision to sell, or the fear of missing an opportunity can cause a knee jerk reaction to buy. We need to resist these very normal emotional reactions and maintain a long term focus. The stock market should only be used for long term investing. If you don’t need your money for at least five to ten years you are more likely to stay invested and ride out fluctuations in the market.
If you lose your long term perspective, and react to short term emotional reactions, you can get caught up in a very detrimental cycle of buying high and selling low. An example of a common cycle of market emotions begins when the market drops and you start getting nervous. Over time you become increasingly fearful of losing money and end up selling your stock investments after the market has dropped considerably. Then you sit on the sidelines for a while, waiting for the market to stabilize. The market starts to rebound and you decide to jump back in after that market has gone back up. Afraid of missing a great opportunity, you buy at the market peak. This is a self-perpetuating cycle that can be very harmful to your long term investment returns.
To avoid the temptation to time the market and react to emotional triggers, keep a long term perspective. Focus on what you can control. Maintain a well-diversified portfolio that is in line with your long term goals and your investment risk tolerance. Live within your means and maintain an emergency fund of at least four months of expenses. Invest money that you will need in the short term into safer interest earning investments. By limiting your stock market investments to long term money, you will be more likely to stay the course and meet your investment goals.