Q.
Do you have any comments regarding holding any money for investing since the stock market is at all-time highs? For example, Mark Cuban stated recently that he liquified multiple assets and that Berkshire Hathaway is holding more than $100 Billion in surplus cash as if waiting for the right moment to invest?
Q.
I am an airline pilot who recently moved to Europe for work. We sold everything (house, cars, furniture, etc.) during the move and are sitting on a pile of cash….with having zero debt I’d love to put the cash in an index fund but at 25,000+ the market feels overvalued and on a precipice so I have a hard time deciding what to do. We will need to return to the U.S. in a few years so will need some cash to buy the house, cars, and furniture etc. Any insight would be appreciated.
A.
“I have no idea if we are at a market top and neither do you. Nor does Mark Cuban, Warren Buffett, CNBC, or anybody else.”
The realization of that fact, like coming to understand that index funds will outperform the vast majority of actively managed mutual funds over the long run, is immensely freeing. It allows you to concentrate on what really matters rather than spending all your time, worry, effort, and mental energy on something that doesn't. Now, it isn't that what happens in the near future won't have an effect on your portfolio and financial position, it is simply that you really can't do anything about it, so why worry about it? Actually, that's not entirely true. You CAN do something about it. You can buy and sell and try to time the market. The problem is that you SHOULDN'T do anything about it, because you are far more likely to hurt yourself by trying to time the market.
The smart ones learn this lesson from watching the mistakes of others. But some of us have to make it ourselves, often multiple times.
Guru-based Investing
Guru-based investing doesn't work. I recall a study that looked at thousands of guru predictions about where the market was heading – they were correct 47% of the time, i.e. less accurate than a coin flip. “But it's Warren Buffett!,” you say. Okay, let's go to the tape. Apparently, Berkshire Hathaway has underperformed the market over the last decade. Look, if you think Warren Buffett can predict the future well enough to take advantage of it, just buy Berkshire Hathaway stock and quit worrying about anything else. But even a cursory examination of the record would cast doubt on that premise. I mean, take a look:
9.76% for the market and 9.39% for Warren Buffett over 15 years, and it's even worse when you look at shorter time periods. That doesn't seem to be the work of someone who can successfully predict the future. Why is the performance lower than the market? Well, it may very well be the cash drag. The difference between getting an 8% market return and a 1% cash return on $100 Billion is about $7 Billion dollars, or about half the state budget of Utah.
The other issue for Warren Buffett is that $100 Billion is a large number. What kind of a deal do you need to deploy $100 Billion? There are only about 50 companies in the S&P 500 that have a market capitalization larger than $100 Billion. So outside of those 50, you could buy the entire company with $100 Billion.
Emotion-based Investing
As bad as guru based investing is, it is almost certainly better than emotion based investing. This is where you invest based on your own fear and greed and where you “feel” the market is at. This is an almost certain recipe for buying high and selling low. If your feelings could lead to outperforming the market, why would you be sitting in a clinic seeing patients instead of running a $100 Billion mutual fund? Besides, the market “felt” high to people in 2009-2010 (remember the fear of the double dip?, I do), and has felt high every year since. But what has the right move been so far? To hold your nose and invest.
My premise is that you are far better off acknowledging the near-certainty that you cannot predict the future and coming up with an investment plan designed to be successful in a broad range of future economic scenarios. Perhaps the best is a simple, fixed asset allocation you will hold through good times and bad. That's what I have done since I started investing in 2004 and it worked very well for me, so I recommend it to others.
Stocks for the Long Run
Your Asset Allocation Might Be Too Aggressive
In truth, the fear of putting a lump sum into the market may be due to being too aggressive in your investments. The asset allocation that is right for you is the one where your fear of missing out on gains is precisely balanced by your fear of loss from market fluctuation. Unfortunately, those fears are not static, so you'll have to assess where those fears are for you over the long-term. In 2008, I was 75% stocks and 25% bonds and that felt about right for me. I didn't feel a need to sell stocks, but in early March of 2009 at the market bottom, I wasn't super excited to buy more either. So if you're uncomfortable buying into the market with a 90/10 portfolio, dial that risk level back until your fear of missing out kicks in. Maybe that's 70/30 or 60/40, I have no idea. But at a certain point, holding cash won't be so attractive to you. Of course, if that point is a 10/90 portfolio, you probably ought to consider the words of Phil Demuth:
Your psychological predisposition to take or shun risk is irrelevant to the ultimate means to reach your investment objectives…If you are a sensitive soul who can brook no paper losses, the solution is to get a grip, not to invest “safely” if that locks in running out of money when you are old.
We're Usually at Market Highs
Finally, while it would be fun to go back and invest in March 2009 knowing what was about to happen, the truth is that we are USUALLY investing at market highs. Take a look at the chart:
As you can see, buying at any point from 2005-2007 or from 2013-2018 was buying at a market high. If you go back further in time, you can see this is NORMAL. Check it out:
Why does this kid have a larger Roth IRA than you? Because she isn't afraid to invest at market highs. If you're 3 years old, that's all you've known.
This is a logarithmic scale, which seems a bit more accurate. As you can see, the market spends about 3/4 of its time at a market high. If you wait to invest until the market ISN'T at a market high, there is a very good chance you will be waiting for years AND buying in at a higher level than you would have. Consider the worst case scenario – an investor with such terrible market timing that she ALWAYS buys at the market peak. What do her outcomes look like? Luckily for us, Ben Carlson, CFA, has answered this question. Basically, over the long run, she ends up with half the money as if she had just invested every month like a blind monkey. But she still ends up with enough to reach her financial goals.
My recommendation to you if you're having trouble convincing yourself to buy at a market high? Invest like they vote in Chicago – early and often.
What do you think? How do you invest at market highs? Comment below!
Yes. It is never an all time high.
Ha ha, good point. “All-time” refers to both past and present doesn’t it?
Thanks Jim. Another article that I can simply send the link to in order to save my clients money. The NYT had a great article out this weekend about some old controversial data. The performance of the average investor in a mutual fund differs from the mutual fund actual performance because investors are nervous about “when” to invest. I do know the data on this is controversial, but the NYT and Morningstar data make a compelling argument that there is data to support the viewpoint that investors do worse than the mutual fund because they are trying to time the market, which is impossible. Here is a link to the article. BTW, I loved the part on the podcast where your daughter stated the disclaimer. Make sure she is compensated for that, and that money makes it into her Roth IRA. Put her in 100 percent stock because she is so young and has a rich father. Here is the link:
https://www.nytimes.com/2018/10/12/business/index-fund-investors-simpler-approach-may-enrich-returns.html
Of course. But I think her Roth is 90% stock. TR 2060 or something. The educational value of a diversified portfolio will be worth a lot more than the potential extra return.
Excellent point about Warren Buffet and Berkshire Hathaway underperforming the market. Warren Buffet has name recognition which the majority of investors do not. When he buys a company guess what happens? People find out and want to get in on something that Warren must think is a great buy and subsequently he looks like a genius when the price correspondingly goes up.
For those that are extremely scared to deploy a large sum all at once they could do the dollar based averaging technique where they split the total amount and deploy it in even installments over a certain time period like a year. Studies have shown that this too in the long run dampens your return compared to going all in but psychologically it may make the investor feel better and prevent them from always being on the sidelines with cash drag instead.
My thoughts exactly on spreading investment over time. Probably lose a little earnings but huge comfort factor given risk of sudden market drop if you fear its on a precipice. Even better if someone does it for you, kind if locks you into the schedule and gives you more time to get comfortable with the market.
Exactly. DCIing just makes people feel better while hurting their returns.
https://www.whitecoatinvestor.com/dollar-cost-averaging-is-for-wimps/
The philosophical part is what I love (big surprise right?). The fact that you can let go and realize that timing the market is a fool’s errand and that dollar cost averaging regardless of what the market is doing is the best way to go about all of this – it’s so freeing.
Making investing simple is really important. And this is certainly part of the Pareto Principle (the 20% you need to know to get 80% of the results).
Thanks for the solid reminder.
TPP
You mean periodic investing, right? In order to choose dollar cost averaging over lump sum investing, you must first have a lump sum. If you don’t have a lump sum, you just invest as you earn the money like the rest of us. That’s periodic investing. All the upsides of DCA with none of the downsides.
I must agree that periodic investing is a great way to go. Though I am still slogging my way through internships and coursework I periodically invest 20% of my income and have no debt thus far. I use ACH and 401K plan automatic contributions to automate the process for me. I have some spare money I use to buy coffees in the morning from MCD and I take some of this spare money and shove it into my taxable account whenever it looks like a falling bear market. The amount of money is insignificant, its the behavioral discipline and conditioning that I am after.
My chosen portfolio is a 90/10 stock/bond asset allocation as recommended and used by Warren Buffett. The portfolio is diversified, and dollar cost averaging helps lower the volatility enough that I can hold this most of my life time. When I get ready to retire I will probably shove it into a 50/50 or take part of it out and buy a stable annuity. I will probably leave some of in the 90/10 portfolio and make that a trust for my inheritors.
I do not think that the market will always rise forever, after all look at what happened to the Japanese market and its bubble. An investor using lump sum investing at the top of that bubble would be very sorry, even today after waiting almost thirty years.
If I had a lump sum I would dollar cost average it, and just keep blindly doling in money largely ignoring the market. If I did not have a lump sum to invest I would definitely use periodic or formulaic investing.
If a person feels an overwhelming desire to sell, instead dole in a little more disposable money(money spent on non-essentials) and console yourself for buying stocks on sale. Actively forcing yourself to go against the current on small dips will help you behaviorally during the larger dips.
Even a small deposit of less than a hundred dollars on a week in a falling bear market helps you feel that you are doing something as your money seemingly evaporates, and it sets up a behavioral habit. You are unlikely to sell if you are engaged in buying, because you are doing something and committing to a given course of action, and people on average tend to be consistent with their commitments of action.
To be fair, Warren Buffett doesn’t use a 90/10 portfolio nor does he seem to recommend it for anyone but his wife after his passing.
As we all know thinking that you can time it is a fools game. The market is never at an all-time high if you consider the future, and it’s often at a high, so just invest and move on. But I do understand the psychological aspects of that can be very difficult for many. I got over it years ago and just robotically dollar cost average
What is it with the misuse of this term? I think it has been misused so much that it now encompasses both traditional dollar cost averaging and periodic investing.
Ah, but market timing is incredibly lucrative when you’re the broker collecting trading fees from clients.
I’ve long thought that’s the simple answer to why this whack-a-mole question never dies. It has to trump greed and the need to prove yourself smarter than anyone else when it comes to investing. Most of the people I talk with can’t even tell when they’re losing money selling their home.
For taxable accounts investing in the next two months or so will result in your buying the dividends and capital gains (if any) and paying the resulting taxes… It may be more prudent to wait until the dividends have been paid, usually in mid-December and then buy. The funds will begin posting their estimated distributions and pay dates this month.
Most of my funds pay quarterly dividends. If I tried to avoid buying the dividend I’d never get anything invested. It doesn’t take missing much of a rise to cancel out the benefit of not buying the dividend. That might make a good post, but for now I don’t think I’d wait longer than about a week to avoid “buying the dividend.”
Great post Jim. This is why it’s always preferable not to check the stock market frequently. Just invest early and often, probably on automation. I never really peak except to check my portfolio 4 times a year when I update our quarterly net worth. I know, I know, I miss out out on tax loss harvesting but I barely have any taxable account at this time. This helps me to keep me away from worrying whether the market is tanking or not. Just invest, invest, invest and don’t worry about it being too high. Control the things you can control. My favorite John Bogle quote is: “The stock market is a giant distraction to the business of investing”. I couldn’t agree more.
Whenever someone asks me if they should invest at an All Time High, I like to remind them that Rita Coolidge’s “All Time High” was the theme song to the 007 film Octopussy. It reached #1 on the Billboard Adult Contemporary charts in August of 1983.
I like your answer better.
I also take the opportunity to remind people that there’s no time like the present to write up a quick investor policy statement. Start with a desired asset allocation and build it out from there. When you have an IPS and you follow it, you stop asking questions like these.
Cheers!
-PoF
I have two comments.
One, it is only appropriate to say that “Berkshire Hathaway has underperformed the market” if it has underperformed assets of similar risk. There is a good chance that Berkshire Hathaway is less risky than the general market. It may have outperformed “the market” of securities of similar risk.
Two, it is not fair to measure Buffett’s performance based on the stock price of Berkshire Hathaway. It is more appropriate to measure the performance of Berkshire’s underlying assets, which is a little trickier to do.
There is also a good chance that BRK is more risky than the general (equities) market. At least in the short term. It’s one security. Warren and Charlie’s combined age is 182 years! Who knows how investors will react when the inevitable happens. But to talk about risk in this way you also have to define the time period.
I also wouldn’t necessarily equate the return of BRK with “Buffett’s performance” but I think it’s a fair comparison, and Buffett apparently thinks it’s fair also, demonstrating so by placing a table comparing BRK performance (both book value and market value) to the return of the S&P 500 on page 2 of the Annual Report every year. And talking about the comparison at length. And he’s made it clear time and again that he thinks the majority of investors would be better served putting their money in an S&P 500 index fund (he prefers Vanguard) and moving on. And that BRK is likely to lag behind a bull market, because the BRK’s size and the difficulty in finding deals that move the needle in any substantial way.
I’m 99% in agreement with your article, but, I’d advise the airline pilot to sit tight and hold his cash for now. He’ll need his cash in a few years,, which is outside your 2 year window. Two things will happen within a month or two; the mid-term elections and the Mueller report. In addition, we are way overdue for a market correction. These facts have not caused me to reduce equities, but do seem sufficient for a wait-and-see on new investments. I generally agree with all the arguments against market timing, but at certain times prudence may call. I recall Jack Bogle’s warnings in early 2008.
Great article, but didn’t follow the “dry powder” comment. I do love skiing dry powder though!
I like the white stuff too!
But “dry powder” when applied to investing refers to an attempt to time the market by keeping cash on the side to invest when you find an “opportunity.” The main downside is the cash drag.
This is so timely, thanks Jim .
What do you think of Howard Marks’s new book?: Mastering the Market Cycle: Getting the Odds on Your Side https://www.amazon.com/dp/1328479250/ref=cm_sw_r_cp_apa_H.WYBbTP3APPB
After I listened to Tim Ferris interview him a few weeks ago about his book, I decided to pay my mortgage more agressively instead of continuing to put everything on VTSAX. Not quite market timing but if the market drops I would feel better having extra cash to invest. If It continues to go up I would feel better I don’t have a mortgage.
Haven’t read the book, but my crystal ball never seems to show me exactly where we’re at in the market cycle, at least not with enough precision to be actionable.
Good advice and I’m in a similar situation with good amount of cash but plan is to dca it over 12 months. But as Jim mentioned, this should only be done with money for long term purposes. If you will need cash in 3-5 years, then a CD is more appropriate.
Good post Jim. A helpful reminder to stay the course with one’s investing policy and not get side tracked by all the noise out there.
I think using Berkshire Hathaway is not a fair analogy. For two reasons, 1) Warren Buffett’s cash drag is a result of his investment belief in value investing. In a late (by historical context, not saying I can predict the end) bull market such as the one we are experiencing he just does not see value hence increasing cash position. Once value returns he starts gobbling up assets like in 09.
2) the beta for Berkshire Hathaway is less than 1 thus his company has lower inherent risk than the total stock market when there is a downturn.
So all in all not fair to use Bershire cash drag as a reason to stay fully vested in current market. Just doesn’t hold up.
BRK is a single issue stock not an index and so should be looked at in that light. SPY for example tracks the S&P 500 index with about 310 stocks to yield some diversity and to bring down single issue risk to something like broad market risk. If you bought AMZN you would not expect that single issue to show anything like market risk so you should not expect that from BRK either. The return of BRK.B since 1997 has been 12.68% compared to 9.23% for SPY. The risks for BRK.B is 19.03% v 14.8% for SPY. The two issues have a .46 correlation meaning the behavior of BRK.B toward SPY is moderately uncorrelated, so from SPY’s point of view BRK.B is more bond like and adds considerable diversity to a portfolio, far more diversity than any international fund would add. A share of BRK.B purchased in 1997, as of today has increased in value 801%, while a share of SPY has increased 318%. A share of AMZN has increased 105,000% since 1997. Buffet has cash because he can’t find anything priced according to his pricing models at appropriate value to purchase so he doesn’t buy just to buy. Also the stock is highly tax efficient and pays no dividend so the profits accumulate raising the capital gain of the stocks value.
WRT to holding a pile of cash, you can’t make return if your not in some market be it bonds or stocks. The difference in return between 60/40 (7.14%) and 40/60 (6.53%) is only 0.61% but the difference in risk 60/40 (8.93%) v 40/60 (6.24%) 2.69% or 60/40 is a full 30% more risky than 40/60 for only a 15% loss in return. If you’re freaked just reduce portfolio risk by buying bonds with the cash down to your alternative AA, until you’re not freaked. You can then use some of that bond money to buy low once there is a crash and you’re ready for the upswing. The analysis is actually a little more complicated but suffice it to say 40/60 is still very “in the market” and very “value generating” compared to hanging out in cash while safer than the alternative more aggressive purchase. The solution is both/and not either/or.