By Bryan Lee, CFP®, MBA
Have you ever let panic during a market downturn take your focus off your long-term investing plan? Perhaps you sold some investments pre-pandemic or maybe you’ve accumulated significant cash assets and you’re waiting for the perfect time to buy. While it can be tempting to listen to economists and “experts” in the media and try your hand at timing the market, it’s important to keep your emotions out of the equation.
Even though we may not be aware of it, we spend our childhood picking up on how our parents and other significant role models relate to and handle money, as well as internalizing perceived expectations that are imposed on us by society; and over time, our brains are subconsciously trained to respond in similar ways. If your parents were confident in their ability to make wise investments, you will likely face investing with confidence as well. Contrarily, if you experienced your parents scrounging to get by and often quarreling over expenses, you may experience some strong feelings of guilt when making certain purchases.
The seeds of money scripts are planted in childhood, watered by observation, and eventually grow to influence your emotional beliefs about finances as an adult. For this reason, it is vital to be intentional and diligent in talking to your kids about money and modeling healthy financial behaviors. It is just as important to take the time to examine yourself and understand your money scripts and how they influence your financial behaviors.
Money Scripts Can Be Challenged
To be fair, not all money scripts are bad. Some learned behaviors plant seeds for beneficial emotions about finances. However, other behaviors, such as money avoidance, a focus on financial status, or the idolization and even worship of money, can be flat-out detrimental.
Additionally, money scripts are typically only half-truths – advantageous in certain situations but limiting in others. Consider a common money script: “Being in debt is bad.” Certainly high-interest credit card debt can be a crushing burden (and may even conflict with personal values or invoke shame), but debt can also be empowering: for example, the use of a mortgage to purchase a house, or a loan to expand a business. Examining these half-truths can also uncover the implied blame that oftentimes persists in the media and elsewhere when money beliefs are discussed.
The first step you must take in overcoming your money scripts is to identify them. To do this, you must become aware of your emotional responses to common financial situations. Begin to stop and notice your emotional responses to these common experiences:
- Earning money
- Buying things
- Saving for the future
- Budgeting and tracking expenses
- Making financial decisions
- Volatile markets
- Calm markets
- Meeting with a financial professional
- Thinking about your financial future
How do these things make you feel? Anything that elicits strong emotions or automatic judgment warrants further reflection. Keep in mind that negative emotions are not the only ones that can harm your financial life. Some positive emotions, like optimism and self-confidence, can bring about negative results if unwarranted and left unchecked.
How to Manage Emotional Money Decisions
The key to managing and if necessary changing your money scripts and developing healthier money habits is learning to recognize, experience, investigate, and regulate your emotions. You can also build some new, healthy habits that protect you financially and incorporate them into your life. Habits and disciplines such as taking advantage of automatic savings, investing through your employer’s retirement plan or in an IRA, and enlisting the help of someone reliable to keep you accountable are great places to start. Eventually, you will learn how you respond to emotional triggers and you can then take steps, like mandating a “cooling off” period for yourself, before making any decisions.
Investing is one money activity that can be particularly emotionally charged, as evidenced by the desire to try to “time the market” (that is, buying and selling investments based on the news, price movements, internet memes, or other noise). This is why having a consistent strategy results in empirically better financial outcomes than trying to time the markets. Let’s take a deeper look.
Market Timing Is Consistently Inconsistent
Timing the market usually involves attempting to “buy low and sell high” by analyzing current market trends for inefficiencies or volatility indicators. This strategy may work on occasion, but we have found it to be no more accurate in most cases than a coin flip. Not only do you have to guess when to buy in, but you then have to guess when to sell. That means for every gain, you have to be right twice to make timing the market worth it. Unfortunately, market bottoms can only be truly spotted in hindsight, and timing the market is often closer to playing the lottery than it is to an educated guess.
Timing the Market Is Expensive
Timing the market can also be expensive. Depending on your account type, asset class, and where you are executing your trades, you may be charged for every purchase and sale you make, and that’s on top of any taxes owed on gains. The more frequently you trade, the higher your transaction costs and taxes may be.
If you held the assets for less than a year, your short-term gain will be taxed as ordinary income at your marginal tax rate, which can be as high as 37% for high-income earners. Long-term gains are taxed at a preferential rate, but regardless of the holding period you may also owe state income taxes and Medicare surtaxes on the gains. And regardless of your tax rate, your market timing must still be right more often than not just to cover the cost of your guess.
You Will Miss Out on Compound Growth & Market Rebounds
A recent study by Schwab Center for Financial Research found that bad market timing is worse than investing any available cash immediately, regardless of the market conditions at the time of investing. This indicates that even in market downturns, or just before a downturn, investors who invest immediately and remain invested will be better off than those who stay on the sidelines or attempt to time the market.
Take a look at Schwab’s graph below, which shows just how much more a fully invested portfolio earned over the course of 20 years. The “invest immediately” approach earned approximately $14,000 more in growth than a portfolio with bad market timing, and $91,000 more than a portfolio that stayed in cash.
What’s more, over time that extra $14,000 or $91,000 will have the opportunity to grow even more thanks to compounded interest. Even if the market fluctuates in the short term, the odds are high that a solid investment strategy will grow over time.
Another graph by Hartford Funds and Morningstar shows what happens if you miss the best days in the market, which often closely follow a major downturn and can be just as difficult to predict. An investor who missed the 10 best days in the market between 1992 and 2021 would have earned 54% less than someone who was fully invested during the same time period.
Someone who missed the 30 best market days would have earned a whopping $172,000 (83%) less than their fully invested counterpart. The research is based on a $10,000 initial investment, but these numbers would be much more dramatic if you were dealing with a $100,000 or even a $1,000,000 portfolio.
The time value of money tells us that a dollar today is worth more than a dollar tomorrow, and this is certainly the case when it comes to investing. The longer you are invested, the more likely you are to ride out the day-to-day market fluctuations and experience growth instead.
Are You Missing Out on Opportunities for Growth?
Don’t cheat yourself out of opportunities for growth by prematurely timing the market or letting your emotions drive your investment strategy. No matter where you are in life or how complex your financial situation is, we can help you organize, protect, and grow the assets you count on to provide for you and your family. If you want to start a conversation and create your ideal investment strategy, call (972) 403-1234 or contact us online to set up a complimentary get-acquainted meeting so we can see if we are a good fit!
Bryan Lee is the founder and president of Strategic Financial Planning, Inc., an independent, fee-only financial advisory firm. With more than 27 years of industry experience, Bryan uses a unique client-first financial life planning approach and process to help his clients get the most out of life. Bryan earned his Bachelor of Business Administration in finance and his MBA in international finance from the University of North Texas. He is also a CERTIFIED FINANCIAL PLANNER™ professional.
Bryan is actively involved in his community and industry and has served on the boards of several associations and charities, including the Dallas/Fort Worth chapter of the Financial Planning Association, the National Association of Personal Financial Advisors, Family Services of Plano, the CITY House, and the Journal of Financial Planning. Bryan has been featured in local and national media, including The Wall Street Journal, Investors Business Daily, CNNfn, USA Today, SmartMoney, Kiplinger’s Personal Finance, Financial Planning Magazine, The Dallas Morning News, and Dow Jones Newswires. And, he has been recognized as a Five Star Wealth Manager and one of Dallas’s Best Financial Planners in D Magazine every year since its inception and recently as a Top Wealth Manager. To learn more about Bryan, connect with him on LinkedIn.