Stocks are soaring. Should we worry? Research shows staying invested is the best approach
Equity markets have been on a tear for months and are regularly making new highs. The S&P 500 was up 15% year-to-date as of late June, with the index reaching new record highs 33 times this year so far. The Nasdaq 100 index is doing even better—up 18.1% in 2024.
Most investors in stocks are rightfully pleased. But this is also a time when questions arise about how to respond to sky-high equity prices. Is it best to wait for a correction to add to investments? Perhaps it’s even a time to take profits and lighten up on holdings?
At PWL, we see rising stocks as a sign of a strong economy and something to embrace. Market highs are a normal and healthy phenomenon that investors should welcome. Our view is that it’s time in the market that counts, not timing the market.
As Warren Buffett once observed, “The only value of stock forecasters is to make fortune tellers look good.”
New market highs are common
It turns out there’s good data to support this view of market highs. The broad U.S. equity market has made 1,250 new highs since 1950, or over 16 per year, according to a recent report from RBC Global Asset Management.
Interestingly, RBC found that investing in the S&P 500 only at all-time highs would have led to a return “close to the average return of the index for one, two- and three-year periods.” In other words, there was little difference between investing at highs and investing at any other time.
You might think a market high is the very worst time to invest. Not necessarily. In fact, since 1950, the average five-year return for investing only at all-time highs was 10.3%. That compares to 11.3% for investing on all other dates. “New market highs are not as meaningful as some people may think,” RBC said.
A retreat isn’t inevitable
Research from Dimensional Fund Advisors came to a similar conclusion. Its report, titled “Why a Stock Peak Isn’t a Cliff,” found that average annualized compound returns after a new monthly closing high were 13.7% after one year, according to data from 1926 to 2022. This was actually higher than the 12.4% return after months that ended at any level.
Five years later, the comparable returns were 10.2% after closing-high months versus 10.3% for all other months.
“History shows that reaching a new high doesn’t mean the market will then retreat,” Dimensional concluded. “In fact, stocks are priced to deliver a positive expected return for investors every day, so reaching record highs with some regularity is exactly the outcome one would expect.”
Correction fears
But isn’t there a higher risk of correction after an all-time high? This is a valid question. Legendary investor Peter Lynch addressed it nicely with this comment in 1995: “Far more money has been lost by investors preparing for corrections or trying to anticipate corrections than has been lost in corrections themselves.”
RBC also evaluated this question in its report. It looked at how often the S&P 500 has finished down by over 10% after an all-time high since 1950.
One year out, the market had such a correction 9% of the time. Three years on, the market was down 10% or more only 2% of the time. And five years out, the index has never been down by more than 10%.
Protect yourself with a good plan
Corrections are inevitable; markets are down one in four years on average. But there’s no way to predict when a correction will happen, and the evidence shows they don’t happen after every market high.
What we can do is prepare. At PWL, we do this with our evidence-based approach of passive long-term investing in a diversified portolio. As asset values fluctuate, we regularly rebalance to maintain allocation targets.
It’s a good idea to regularly review and update your long-term investment strategy and asset allocation with an advisor, especially if your goals or risk tolerance changes. But what’s most important is to follow your plan with discipline—no matter what the market does day to day.
And that may make it a little easier to sit back and enjoy the bounty when markets make new highs.
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Find more commentary and insights on personal finance and investing in our past blog posts, eBooks and podcast on the website of PWL Capital’s Parkyn-Doyon La Rochelle team and on our Capital Topics website.