How You’re Losing Money By Not Investing
Investing can be scary at first and definitely intimidating. I’m sure you’ve heard the horror stories of people losing their life savings in the market and vowing never to invest again. But it’s essential to building wealth and you’re actually losing more money by not investing. I’m here to show you why the risk of investing is usually overstated and why you need to start investing today if you’re not already.
Now, I’m not going to lie to you. Investing has risks. There’s no way around it. There is the possibility of losing money.
But we overcome risk everyday. When you walk outside, you risk succumbing to accidents and disease. Yet you do it anyway. That’s because you’ve developed a perspective that helps you understand the risks and decide that the benefits outweigh the risks.
Think about personal vehicles. Owning a car is dangerous. Every time you get into your car you’re taking the risk of getting into a crash. Who hasn’t driven down the highway and seen mangled vehicles with flashing lights next to them? Many of you probably live in areas where the morning and afternoon radio dedicate time every half hour to talking about crashes on the road. In 2016, there were over 40,000 motor vehicle deaths and that number is on the rise! If you wanted to avoid dying from a crash, you could travel by bus which has 60 times fewer fatalities/mile than cars and light trucks.
If you went by bus instead of car, you’d greatly reduce your risk of injury. So why do people continue to drive themselves?
40,000 deaths may seem like a lot but if we compare that to the number of miles driven, it comes out to an average of 1.25 deaths per 100 million miles driven. Most people don’t know these exact numbers but understand from personal experience that the risk of dying isn’t anything to be worried about. Having your own car allows you to get from one place to another on your own schedule and it’s a lot quicker than taking public transit which can often take twice as long to get to the same destination. Many people continue to use their vehicles since the benefits far outweigh the risks.
Investing is similar. The benefits you receive from investing are well worth the risks. Just like with vehicle travel, the risk associated with your investments can change depending on your perspective. The stock market often has days where it loses money. If you’re looking at individual stocks, there are plenty that see 10–20% declines in a single day! But basing the risk of investing on a single stock is akin to not wanting to drive because you saw a single car crash. You end up ignoring the fact that most drivers make it home without incident every single day. The same is true of the stock market.
If you look at the broad markets using an index, such as the S&P 500, it rarely loses more than 1–2% in a single day and more often than not it gains value. By simply changing our perspective from a single stock to the entire market, we greatly reduce the perceived risk.
To give ourselves an even better perspective, let’s take a look at the historical performance of the S&P 500. The graph below shows the continual upward march of the markets based on the S&P 500 since 1950. There are certainly times when the markets go down but the overarching trend is upwards. The stock market has an average annualized return of over 9% for the past 90 years. At that rate, your investments will double in value every decade. If we assume sub-par 7–8% annual returns, a $10,000 investment turns into over $76,000 in 30 years!
This is the perspective that you should keep in mind when thinking about investing. Investing isn’t about how much you make in a day or a month. It’s the steady returns you see over years. When viewing investing from this perspective, you can see the risk of losing money is minimal.
In fact, there’s an even greater risk of losing money when you don’t invest. That risk is inflation. Due to inflation, as time goes on, your money loses buying power so the same amount of money buys less product.
If you keep your money in cash, you could argue that there’s no risk of losing money. That’s because it’s a guarantee to lose money. You will effectively lose money through the loss of buying power. To illustrate this, let’s start with $10,000 in 1950. If you had $10,000 in 1950, you could decide to keep it stashed away under your mattress. But, take a look at the graph below to see what would happen to your buying power over time.
As the years goes on, inflation continues to march on as well. Your buying power declines and although you still have your $10,000 in cash, you can’t buy as much with it. The compounding effects of inflation mean that in January 2018, your $10,000 would have the same buying power as $900 in 1950. You would have lost over 90% of your money’s value! If you had instead invested it in the stock market, your buying power would grow to $156,000.
But the above isn’t exactly a good representation of how most people invest. To start, most people don’t have large lump sums of cash to invest and sit on. Additionally, the 70 year time frame isn’t practical in most cases. So let’s take a look at what a hypothetical portfolio might look like and revisit our friend Tommy.
It’s 1987. She has big old hair and is rocking out to Bon Jovi’s Livin’ on a Prayer. But she’s smart enough to know that prayer’s won’t provide her financial freedom, so she decides to start regularly putting money into savings. At the beginning of 1987, she decides to put away $500 every month. That’s the equivalent of about $1,100 today. Halfway through the year and Tommy’s investments are looking great! By the middle of August, her investments are now worth about $4,600.
Fast forward to October of that year. Tommy has continued to put in $500 each month. Her investments have declined a little bit but she’s not concerned. The investments are still worth more than she put in and Tommy knows there can be fluctuations in the market. At the beginning of October, Tommy’s portfolio is worth just over $5,500.
Then, on October 19, 1987, the market plummets. The S&P 500 loses nearly 30% in a single day. Tommy’s portfolio value drops by $1,000 in that one day. By the end of October, Tommy’s portfolio has lost a significant amount and is worth less than $4,200. That’s $1,400 less than her $5,600 high earlier in the month. If Tommy sold at the end of October, she would have invested $5,000 by that point which would have meant a loss of over $800.
October 19,1987 still stands as the single worst day in stock market history. It’s referred to as Black Monday and lots of people lost lots of money that day. People were liquidating their investments in anticipation of even larger decreases. But the market recovered. The market goes up. And it goes down. But it goes up more than it goes down.
Tommy remembered this and continued to put in $500 per month until she retired 30 years later at the beginning of 2017. Through all of that, she saw the dot-com bust of the early 2000’s as well as the Great Recession from 2008–2009. Even so, she continued to invest. When she retired, she had put in $180,000. But her $180,000 turned into almost $580,000. She now has over 3 times as much money as she put in! Because she continued to invest, regardless of the market conditions, she was able to reap the benefits and avoid inflation eating away at her purchasing power.
As I’m writing this, the S&P has lost about 10% of it’s value from it’s most recent high. It’s plummeted 10% in just 2 months. If you had a $100,000 investment in the stock market, you would have seen the value of your investments go down by $10,000. Not something anyone wants to see.
But this isn’t all that unexpected. In the context of the entire history of the stock market, it’s not that bad. And when we consider the alternative of keeping cash and succumbing to the effects of inflation, investing is a much better option.
Investing in the market can be difficult sometimes. You’ll see your investments drop and you’ll start to second guess whether you would have been better off keeping everything in cash. But you’ll have more days where you’ll see your investments steadily rise in value.
If you start investing today, you’ll buy yourself more time to ride out the market and reap the benefits. Before you know it, you’ll have a portfolio worth much more than you put in.
