Trekking the long road to recoveryby Russ Wiles on Apr. 10, 2009, under Edge
With the stock market behaving better, investors finally have been able to get up, dust themselves off and contemplate the long road to recovery.
An old proverb comes to mind – the one about a journey of 1,000 miles starting with a single step.
The trek back seems to stretch at least 1,000 miles, if not longer. In terms of the Dow Jones industrial average, the market is still more than 6,000 points below its old peak, requiring a near-doubling of stock prices to get back to the former level.
Better bring an extra pair of sneakers, a hat and a good walking stick.
There won’t be many reliable mileage markers along the way, either. Nobody knows exactly how much the road will twist and turn, how long the trek might take or even whether most of us will get there. But here are some things to ponder along the way:
• Recognize that the road back will be anything but predictable.
Investors already are trying to predict how long it will take the market to recover. In a survey released by Charles Schwab last month, 55 percent of investment advisers predicted client portfolios would need up to three years to recover, while 35 percent think the process will take between three and five years. It might take longer.
Not only is the road uneven, but a lot of the journey will need to be covered at night and during foul weather, when the economic backdrop still looks bleak.
• Make up ground faster by staying on the trail.
The route back should be the same one you took to get here. If your portfolio took some hits from stocks, then stocks offer the preferred path back. Bank deposits and money-market funds just don’t yield enough to cover the terrain quickly.
Yet plenty of investors cut their stock holdings after the market tanked, and they likely will recover more slowly. A study by Dalbar Inc. that analyzes mutual-fund cash flows by shareholders said that investors routinely lag the stock market because of timing mistakes.
“While those (market) returns are, in fact, theoretically achievable, the reality is that investors are not rational and make buy and sell decisions at the worst possible moments,” said Lou Harvey, Dalbar’s president.
• Don’t worry about reaching those old mileage markers right away.
While it’s human nature to compare your current results against where your portfolio stood at the peak, it’s not always relevant.
“It is a disservice to pick an arbitrary date of October 2007 as the reference point against which all future gains must be measured,” said Jeff Young, an investment adviser at First Financial Equity Corp. in Scottsdale.
If you’re obsessed with the old high, you probably feel remorse now and might make unwise decisions such as getting too aggressive in hopes of rebounding sooner.
Investors can still succeed, Young adds, even if they don’t sell at the top.
“It is not at all necessary for one to exceed or even match former highs to have a portfolio that generates enough income to live a retirement in dignity (or meet other objectives),” he said.
• Try to reach your destination early.
If you invest regularly, your portfolio could recover before the market does. Why? Because you would have been putting money to work along the way at low prices using a dollar-cost averaging strategy. That could mean you don’t have to wait until the Dow returns to its former trading peak around 14,280 before you hit a new personal high.
But the key is to invest regularly and reinvest all dividends and distributions. Dividend reinvestments are a powerful force, often overlooked, accounting for perhaps one-third to one-half of overall returns, depending on the period studied.
• Expect a downhill grade and a tailwind.
Although the journey back won’t be smooth, it probably will be better than it has been in recent years. Why? Because market results “revert to the mean,” or hover around a gradually sloping upward line representing long-term growth in the economy.
Put more simply, long periods of poor results usually are followed by lengthy periods of good gains. In the past, when stocks delivered an average annual return below 5 percent over a 10-year stretch, they’ve followed with average annual returns of 13 percent over the next 10 years, according to an analysis by the Davis Funds.
It’s notable that the past decade has been one of the worst stretches ever.
“While we cannot know for sure what the next decade will hold, it is highly likely to be far better than what we have suffered through in the last 10 years,” the company said in a report.