It’s no secret that the US stock market is now sitting at record highs.
These historic highs are enough to make any investor nervous.
The PE ratio of the US stock market in 2017 is 25 when the historical average is 16 – in layman’s terms, stocks are expensive.
High-valuations are specifically record valuations are normally associated with serious market corrections. As an investor, you might ask whether its sensible to invest at the top of the market?
So how do you invest in a market with these highs?
We decided to test it for ourselves.
We measured the performance of the S&P 500 index when investors bought before huge economic shocks: the “1974-1975 stock market crash” and ‘black monday” in 1987.
The 1974-1975 Stock Market Crisis: The economic downturn in the mid-seventies was the worst economic shock in modern history. In the days between 11 January 1973 and December 1974, the NYSE’ Down Jones Benchmark lost over 45% of its value – the seventh worst bear market in the history of the index. In the UK, the effects of the crisis were worse – the London Stock Exchange lost a staggering 73% of its value!
If you invested $10,000 in 1970, four years before the “1974-1975 stock market crash”, your investment would be worth $86,100 adjusting for inflation in 1999.
Even if you had invested at a historic high, you would still have nearly a ten fold increase in profits after twenty years.
Black Monday (1987): The market correction on 19 October 1987 was far harsher. In the US, the Dow Jones Industrial Average fell exactly by 22% in one day. By the end of the month, the market had fallen by nearly 50%.
Still, If you had invested $10,000 in 1986, one year before the “black monday”, your holding would be worth $79,300 in 2016 adjusting for inflation.
This is even through the ‘dot-com bubble’ and the ‘great recession’ in 2008. Two enormous stock market corrections that followed ‘black monday’.
Buying index funds at the top of the market and holding them for long periods of time, has paid off investors handsomely in the past.
This reason for this is simple.
By holding low-cost index funds for extended periods of time, investors defer capital gains tax, trading charges and other costs that build up over time. While the market prices are an important consideration for this strategy, the most important part is holding the stocks for as long as you can.
This strategy has been proven over a long period of time and has allowed investors such as John Maynard Keynes, John Lee and Warren Buffet to beat the market. You won’t beat the market with index funds, however you will make handsome returns with a lazy stock portfolio