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The High Cost of Cashing Out

March 17 2022

Help your clients understand the benefits of staying invested when the market takes a dip—and how cashing out can result in unnecessary losses.

When the stock market takes a dip, moving to cash can be a tempting option for investors seeking a respite from volatility. However, cashing out of a declining market could come at a cost. Although past performance cannot guarantee future results, history shows that stock markets eventually recover. Investors who cash out not only could lock in investment losses but could also miss out on longer-term gains as the market recovers, hurting their chances of achieving long-term financial success.

Outcomes for Different Styles of Hypothetical Investors

Both began investing $2,000 each quarter beginning in 1990 through Q4 2021

Both began investing $2,000 each quarter beginning in 1990 through Q4 2021

The “anxious” style of investor is assumed to be invested in 3-month Treasury bills as a cash equivalent. The $2,000 contributed each quarter in this example assumes minimal interest earned. The anxious style of investor also assumes that cash is invested in Treasury bills during those periods when not invested in the stock market. The performance of stocks shown is that of the S&P 500 Stock Index, which measures the performance of large-capitalization companies that represent a broad spectrum of the U.S. economy. Charts are for illustrative purposes only. Investors cannot invest directly in an index. Past performance cannot guarantee future results.

Sources: T. Rowe Price and S&P. See Additional Disclosures below. 

A tale of two investors

To see the benefit of staying invested through all types of markets, let’s consider two hypothetical investors—the first sticks to their investment strategy despite market fluctuations, and the second becomes anxious during volatile markets and jumps in and out. Both investors contributed $2,000 each quarter to their investment accounts. The steady investor (dark blue in the chart above) kept their money and ongoing contributions invested, riding out the stock market’s ups and downs. The anxious investor (orange) moved their account balance and contributions to cash when stocks dropped 10% or more in a quarter and only jumped back into equities after a fourth consecutive quarter of positive returns. This behavior was repeated throughout several market cycles.

Ultimately, the anxious investor’s account value ($376,386) was less than a quarter of the steady long-term investor’s account ($1,787,135) at the end of the period.

While both investors saw their portfolio balances decline during downturns, they continued to contribute to their accounts. The steady investor took advantage of lower stock prices through their ongoing contributions and was rewarded as the market recovered. Ultimately, the anxious investor’s account value ($376,386) was less than a quarter of the steady long-term investor’s account ($1,787,135) at the end of the period.

It's possible to profit from patience

It’s nearly impossible to time the market and identify its peaks and troughs. If history is any guide, short-term drops in the stock market typically have been followed by longer-term rallies.

Bear Markets and Corrections January 1990-December 2021
Bear Markets and Corrections January 1990-December 2021
Bear Markets and Corrections January 1990-December 2021

Drop is based on the percentage drop from the highest market index value just prior to the correction to the lowest market index value. Recovery is defined as the length of time for the market to return to the previous highest market index value, rounded to the nearest number of months.

Sources: T. Rowe Price and S&P. See Additional Disclosures below.

Stay invested for market recoveries

The graph above shows that after market corrections (defined as a drop of at least 10%), the stock market typically recovered lost ground after three to six months. For two of the three bear markets (defined as a decline of at least 20%), stocks were back to their prior levels within four to five years. In 2020, the coronavirus shock was a shorter duration and stocks returned to prior levels within five months.

Trying to time the market can result in two types of losses. First, converting stocks to cash after they have lost value can lock in those losses. Second, you could miss out on gains when the market rallies if you wait too long to get back in.

Don’t let volatility change your plan

Market volatility is a given. Short-term downturns can be disconcerting, and they may heighten anxiety among some investors. If the stock market’s historical trends hold true, a patient investor who absorbs short-term volatility can benefit over the long term.

For additional resources such as how to help your clients understand the role of fixed income, keep a long-term perspective, and chart a steady course, visit Speaking of Markets.

Additional Disclosures

Copyright © 2022, S&P Global Market Intelligence (and its affiliates, as applicable). Reproduction of any information, data or material, including ratings (“Content”) in any form is prohibited except with the prior written permission of the relevant party. Such party, its affiliates and suppliers (“Content Providers”) do not guarantee the accuracy, adequacy, completeness, timeliness or availability of any Content and are not responsible for any errors or omissions (negligent or otherwise), regardless of the cause, or for the results obtained from the use of such Content. In no event shall Content Providers be liable for any damages, costs, expenses, legal fees, or losses (including lost income or lost profit and opportunity costs) in connection with any use of the Content. A reference to a particular investment or security, a rating or any observation concerning an investment that is part of the Content is not a recommendation to buy, sell or hold such investment or security, does not address the suitability of an investment or security and should not be relied on as investment advice.

Important Information

This material is provided for informational purposes only and is not intended to be investment advice or a recommendation to take any particular investment action. This information is not intended to reflect a current or past recommendation concerning investments, investment strategies, or account types, advice of any kind, or a solicitation of an offer to buy or sell any securities or investment services. The opinions and commentary provided do not take into account the investment objectives or financial situation of any particular investor or class of investor. Please consider your own circumstances before making an investment decision.

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