As the market hovers> at levels not seen in 12 years, throwing in the towel is more tempting than ever. But be forewarned: Pulling up stakes at this point only positions your portfolio for a longer, harder slog along the road to recovery.
Recouping losses requires selling into bear-market rallies and -- more important -- having skin in the game to profit from that eventual, elusive bull sitting somewhere over the horizon. After all, the great majority of gains in a bull market tend to come on the horns, not the tail. Missing just a dozen or so of the best days can prolong you portfolio's losses for many years to come.
A bull market may be hard to imagine right now, but as Fidelity points out it can be very costly to miss the beginnings of one when it does happen. Researchers at the mutual fund company found that within six months of a new bull market more than a quarter of the gains have already been booked, while more than 40% of the gains come within the first year. Standard & Poor's has found that investors on average recoup 80% of their bear market losses within the first year of the next bull.
Complicating matters is that the big returns in a bear market usually come down to a couple handfuls of trading days. Just try timing that.
To get an idea of how front-loaded bull markets are, consider this analysis by Pinnacle Group, a wealth manager in Midlothian, Va.: If you remained fully invested in the S&P 500 for the 20 years between 1987 and 2007, your average annual return came to nearly 12%. However, if you missed just the 10 best days during that span, your return fell to about 9%. Miss the 30 best days in 20 years? Your average annual return came in at less than 6%.
In other words, missing a trading months' worth of rallies over 20 years lopped about six percentage points off the annual average return. The upshot? The fully invested saw $10,000 grow into $93,000, while those missing the 30 best days got $28,000 for their trouble.
Now get this: Pinnacle notes that investors who did nothing at the bottom of the market during the Great Depression watched their portfolios take more than four years to be made whole. On the other hand, those who plowed another $10,000 into stocks on June 1, 1932, recovered all their losses in just three months.
No one can time the market and this one looks to be range-bound, if we're lucky, for some time. At the same time the market can pick up at the seemingly unlikeliest times. Joe Clark, managing director of Financial Enhancement Group, a financial planner in Anderson, Ind., has reduced his exposure to equities recently, but that doesn't mean he pretends to have a crystal ball.
"The market rallied in March of 2003 with very little good news," Clark said in a Tuesday email. "Things seemed [like] they couldn't get any worse -- similar to today. It was strange but a great time to be in the market. Markets rally at very ugly times in the news cycle and when little happiness seems to exist anywhere."
That's why it remains imperative that investors stick to a disciplined system like the one suggested by SmartMoney's own James B. Stewart, who has long advocated a strategy of buying into declines and selling into rallies. That doesn't mean you have to pounce on every movement on the way up or down, only that if you don't participate now, it will take you that much longer to be made whole later.