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It pays to stay the course

The longer you ‘average’ out your investment period, the less likely it is that you will experience trailing losses

Ian Tam, CFA 6 April, 2020 | 1:09AM
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Editor's note: Read the latest on how the coronavirus is rattling the markets and what you can do to navigate it.

Ian Tam: If you ask for advice from a seasoned financial advisor or investment professional today on what to do during this market crash, their response will likely be similar (1) don’t panic and (2) stay invested. Both these pieces of advice sound pretty easy in concept, but in practice are very difficult, especially if you’re seeing dramatic day to day changes in your portfolio value. Today let’s look at an analysis that might help make that decision a bit easier. 

Here you’ll see three charts. The top chart shows you yearly returns of the S&P/TSX Composite Index from 1977 to the end of 2019. Over the last 40 years or so you’ll see that about 30 percent of the time you will lose money in a given calendar year.

Now, say that you had agreed to yourself to stay invested for at least 3 years at a time. The second chart shows you the annualized rate of return using trailing 3 year periods. Another way to put this is how much on average, you would have made each year in the last 3 years. You can see that if we re-frame it this way, only about 13% of the time over the last 40 years do you incur a loss in the trailing 3 years.

With that in mind, let’s assume now that you made a promise to yourself that you would stay completely invested in the index for 5 years at a time. The bottom chart shows this effect. You’ll see that there are no 5 year periods where an investor would have experienced an annualized loss if you use 5 year timeframes.

The point here is simple, the longer you ‘average’ out your investment period, the less likely it is that you will experience trailing losses. Hopefully this analysis might help you feel better about staying the course and having a long term outlook on your investments in riskier asset classes like equities.

For Morningstar, I’m Ian Tam.

 


 

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About Author

Ian Tam, CFA  is Director of Investment Research at Morningstar Canada. 

 

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