"I'm not afraid of storms, for I'm learning how to sail my ship." -- Louisa May Alcott
We all have fears -- and some of them are financial ones. Many of us worry that we won't have enough money in retirement, for example. That concern can be eased by actively saving and investing in the stock market -- but many people have fears about putting money into stocks, too.
Here's a look at seven common stock market fears, and how you might deal with each of them.
1. Afraid of market volatility?
It's true -- the stock market can be volatile. A stock you buy may rise in value by 30% within a few weeks, only to fall 20% below your purchase point some months later. Expect and accept volatility -- and remember that people can amass great wealth in stocks despite it. Amazing performers Amazon.com and Netflix, for example, have seen the value of their stocks compound at phenomenal rates over the long term -- despite having dropped sharply in the shorter term on occasion.
Remember, too, that for building long-term wealth, it's hard to beat stocks. The table below makes that clear, using data from University of Pennsylvania professor Jeremy Siegel, who studied the rate of return of various investments over more than 200 years:
Annualized Nominal Return, 1802 to 2012
Want some more recent numbers? Siegel also found that the stock market posted an average annual return of 9.6% between 1926 and 2012, topping the performance of both bonds and gold. Siegel also found that stocks outperformed bonds during 96% of all 20-year holding periods between 1871 and 2012, and in 99% of all 30-year holding periods.
2. Afraid of stock market corrections or crashes?
Stock market indexes such as the Dow Jones Industrial Average ("the Dow") or the S&P 500 can and do surge or plunge by several percentage points in a single day. When these broad market indexes drop by 10%, that's considered a "correction," while a 20%-plus drop is a crash. Corrections and crashes can be alarming, especially if you're a relatively inexperienced investor, but they shouldn't be.
You simply need to expect such drops, because they happen every few years, on average. Fortunately, they are often very short-lived, frequently lasting mere months or less (though more rarely, they can last years). They have a significant upside, as well: When the market drops sharply, the stocks of wonderful, growing businesses suddenly go on sale at lower prices.
You might assuage your fear of market drops by preparing for them: Try to keep some cash on hand so that you're ready to pounce on the great opportunities that downturns present. Having a watch list of the stocks you'd most like to own can also help, as that can make you more ready to buy.
3. Afraid of losing money?
Are you afraid of losing money on your stock picks? Well, that's natural -- because it's a near certainty that on some of them, you will. Even the best investors have done so, and will again. None of us is perfect in our judgment or timing.
First, remember that many losses are just "paper losses" or "unrealized losses" -- if you haven't actually sold a stock that has fallen in price below where you bought it, you technically haven't lost any money yet.
Second, understand that what really matters is your long-term portfolio performance. If you're underwater with one of your stocks, as long as it's still a great and promising business, and the reasons you bought it still apply, hang on and be patient. Likewise, even after a big gain, if the company's future remains bright, you might be wise to hang on for many more years.
It can help to avoid checking your portfolio too often. There's little use in checking it daily or hourly. Perhaps just check in once a week or month. Focus on the long run. Understand that there are really just two prices that matter when you invest in a stock -- the price at which you buy and the price at which you sell. And the point at which you'll sell may be a decade or more from now. In that context, today's prices, or tomorrow's, probably don't matter much at all.
4. Afraid of investing in bad stocks?
You will, sometimes. If you lose money because a company turns out not to be as strong a business as you thought it was, sell. The good news here is that if you're doing a good job in your stock investing, even though you will occasionally add clunkers to your portfolio, your gains should far outstrip your losses.
One way to avoid picking regrettable stocks is to just not pick stocks. Instead, stick with index funds. (More on this below).
5. Afraid of overpaying for stocks?
If you're afraid of buying into a company you really want to own because its stock seems overpriced, that's a reasonable fear to have. There's a school of thought that says it's best to only invest in stocks that seem undervalued relative to their intrinsic value. In such a situation, it can be smart to just wait. Add the stock to your watch list, and hope for a pullback.
Alternatively, you might split your investment in that stock into chunks. If you wanted to buy, for example, $6,000 worth of shares, you could open your position with $2,000 now, then add $2,000 more a month or three later, and then another $2,000 some months after that. If the stock was overvalued when you first bought some, and falls in the interim as you feared it might, you'll get your later shares at lower prices. If it rises, you will have bought some shares before it rose. You might decide then to delay buying more shares until it falls, if it does. No one knows exactly how a stock will perform over the short run.
Either way, by spreading out your investment, you are averaging the price you pay over time.
6. Afraid you're not smart enough?
If you think you're not smart enough to invest, you're probably wrong. You don't need to be a genius to make money in the stock market. Most of the math you'll need to know is simple arithmetic -- plus percentages.
It's OK to wait until you feel comfortable with the idea of investing in the stock market and are ready to begin investing -- as long as you are making the effort to learn enough to become comfortable. It's also true that it's best to start as soon as possible, because the most powerful tool an average investor can have in terms of growing their wealth with stocks is time.
Until you're ready to put your cash to work, you might try setting up a mock portfolio of stocks. Pick companies you're interested in, invest a certain percentage of your fake money in each, and watch how they do over weeks and months. That can give you a feel for how it will be to have a real portfolio.
7. Afraid of all of it?
Finally, maybe you're simply afraid of all of it, and are very reluctant to get on the road to being able to study companies and pick stocks. That's fine! You don't have to do that to get rich via stocks. You can opt for the easy way, which is still a powerful way to build long-term wealth: Invest in index funds. A good low-cost index fund, perhaps one that tracks the performance of the S&P 500, will instantly have your money diversified across many companies.
You won't have to decide when to buy or sell, or worry about how specific companies are doing. You won't have to check your portfolio frequently. All you'll have to do is leave the money there for years, if not decades -- ideally adding more money to your stake regularly. Here's an approximation of how much you might amass using this method if you stick with it and earn an average annual growth rate of 8% (which, as you'll recall from the "fear of volatility" section, is about what the market has averaged over the long haul):
Growing at 8% for...
$5,000 Invested Annually
$10,000 Invested Annually
$15,000 Invested Annually
So don't be afraid of the stock market. Many of the most common fears are simply unfounded, and others can be overcome. Steering clear of stocks is likely to leave you in a tenuous financial situation in retirement, so one way or another, start looking into investing. Facing those fears and overcoming them can put you and your loved ones on the path to financial security.
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