Learning From Losses

No one likes to lose, but losses can teach investors how to win in the long-run. If you invested mostly in stocks before October, then you might be rethinking your portfolio after the correction. However, learning from other people’s losses is much less expensive than learning from your own mistakes. With that in mind, the history of the stock market can show us how to reduce losses.

Let us start with the fact that stocks typically have a bear market with losses as high as 50% every decade. The last one occurred a decade ago, and stocks are so expensive now that another crash could happen tomorrow. If you panicked after a 10% loss, then you probably won’t be able to endure it. It is unrealistic to expect a return to the exceptionally stable stock market conditions of 2017. In fact, corrections like the one that stocks had in October often signal an approaching bear market.

Trying to pick winners will not help you to avoid losses. The winners of the last few years did particularly poorly in October, and that should not be surprising. Specific companies often lose much more than the market and occasionally go bankrupt. Even when companies eventually succeed, many investors give up after large price declines. For example, Amazon.com fell from over $100 a share in 1999 to under $6 in 2001. Amazon founder Jeff Bezos held on and became the wealthiest man in the world. Few investors stayed with him the whole way through. Instead, many of them sold at a loss. If you wanted to sell in October, then picking winners probably won’t work for you either.

On the other hand, the last ten years also show that cash is not safe from inflation. Many Americans gave up on investing after the Financial Crisis in 2008 and sought safety in cash. They did not find it. For many years, the Federal Reserve kept interest rates near zero and inflation slowly ate away at cash savings. It is true that interest rates are somewhat higher now, but the Fed is already backing away from future rate increases.

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