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The Market Crash Is Coming! (…Eventually)

Here on the Best Interest, I provide a lot of “you should be investing!” advice. I talk about the power of long-term investments. And stock market strategies. And even about my specific investment choices. But today is different. Today’s post is about the upcoming market crash. Well…it’s coming eventually.

Perhaps you’ve come to believe that I’m an unwavering bull. A pure optimist. That I think investments can do nothing but increase in value. But that’s not true. I know the crash will come. It always does.

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And that might seem scary. If the crash is coming, then why not do something about it? So that’s what today’s post is about. Even though we’re aware that a market crash is coming (eventually), we can take a step back and think about it rationally.

Being a Bull Before the Market Crash

Here’s a prediction.

I predict that I will eventually make a blog post where I say something like,

“I bought some shares of an index fund this month—just like every other month. And I think it’s one of the smartest things you can do as an investor.”

And after that future blog post, the market will proceed to fall 30% over the next few months.

Some people will then look at the Best Interest and think, “Pfff! This guy Jesse doesn’t have a clue what he’s talking about! He invested a few thousand bucks right before the market crashed!! What a dummy!”

I’m calling it now. It’ll happen. And I understand why it will appear like I’d be a dummy.

So let’s dig in. Am I a dummy?

Dummy Test GIFs | Tenor

Historical Data: The Market Crash Always Comes

The market crash always comes eventually.

Bear markets—where the stock market value drops by 20% or more from its previous high—have occurred 12 times since 1929.

Years of Bear Markets Percent Drawdown from Previous High
1929 – late 30s (Great Depression) -86%
1956 – 57 -22%
1961 – 62 (Flash Crash of ’62) -28%
1966 -22%
1968 – 70 -36%
1973 – 78 (Bretton Woods + Oil Crisis) -48%
1980 – 82 -27%
1987 – 88 (Black Monday) -34%
1990 -20%
2001 – 05 (Dot Com Bubble) -49%
2008 – 09 (Financial Crisis) -56%
2020 (COVID) -32%

The market ebbs and flows, oscillating between “unsustainable optimism and unjustified pessimism.” If we believe the assumption that stock prices are current unsustainably optimistic, then it’s believable that a serious bear market could happen in the next few years.

But lesser corrections—typically defined as at least a 10% drawdown—occur even more frequently. Since 1950, there have been 37 corrections of 10% or more. That’s more frequent than one every two years.

It doesn’t take Nostradamus to predict a future market downswing. I’m not calling a 1-in-1000 event. Market corrections happen all the time.

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“But if he gets elected…!!!”

You can find arguments from both sides of the political aisle that certain parties lead to better stock market performance. But let’s investigate the data itself.

First, let’s look at the president only. But heed warning: this is a slightly dangerous game. Does the president alone have enough influence to affect the stock market? Will the answers we find here be conclusive of causation? Or will they only present correlation?

From 1926 to 2020, we have 95 years of S&P 500 data. During that time, we’ve had 48 years of Democratic leadership and 47 years of Republican leadership. Republican years saw an average S&P 500 return of 9.0%, while Democratic years saw an average return of 14.9%.

That’s a pretty big difference! But is it causal i.e. one thing causes the other to occur? Can a system as complicated as the stock market be tied down to a single influencing variable like the president’s political party? Probably not.

After all, that’s only 23 presidential terms and 15 individual presidents. Eight Republicans and seven Democrats. Not exactly a huge sample set.

Keep this in mind for the next time a President tweet-brags about the stock market’s success.

President + Congress

But there is another working theory worth inspecting. The theory is that our government is more efficient when the Congress (both Houses) is controlled by the President’s party. If the President and Congress work together effectively, then we all benefit. It’s a “teamwork makes the dream work” situation.

In the 95-year period since 1926, we’ve had 48 years of President/Congress unification (14 years Republican and 34 years Democrat) and 47 years of division (33 with a Republican president and 14 with a Democrat). The market performance during these periods is very interesting.

President / Congress S&P 500 Average Annual Return
Dem / Dem (34 years) 14.5%
Repub / Repub (14 years) 13.9%
Dem / Repub or Split (14 years) 15.9%
Repub / Dem or Split (33 years) 7.0%
Total Unified (48 years) 14.3%
Total Divided (47 years) 9.7%

Is this causal? Does a unified Federal government ensure that the economy and stock market perform better? I doubt it’s conclusive. But it is interesting nonetheless.

The market trends upwards no matter who is in office, but it appears that political cooperation might help grease the wheels.

The Silver Lining of Market Crashes

Back when we consulted Mr. Market, one big takeaway was:

The only two prices that ever matter are the price when you buy and the price when you sell.

Ask yourself: what are your investing plans are for the next few years? Are you going to be a buyer—someone who is investing for the future? Or are you going to be a seller—someone who has invested for the past few decades and now wants to live off those investments?

If you’re a buyer, then a market crash has a pretty significant silver lining. Cheaper prices! If the market declines, then you get to invest at lower prices. It’s the easiest way to increase your long-term investing potential. Buy low, sell high. Dollar-cost average investors relish these chances to decrease their cost basis.

If you’re a seller, let’s look at how your past 30 years have been. The S&P 500 value was around ~350 in 1990. And now it’s at ~3500, or about 10x higher. If the market drops 20% next week to 2800, then your returns are only ~8x compared to 1990. But an 8x return ain’t bad!

“If the market crash is coming…why not sell now and wait to re-invest after the prices drop?”

Before I answer the question above, let’s consult Peter Lynch—who is considered one of the most successful investors of all-time.

Far more money has been lost by investors preparing for corrections than has been lost in corrections themselves.

Peter Lynch

What exactly is Lynch saying? How do people lose money by “preparing” for corrections?

People lose money “preparing” for corrections because they sell too soon and then don’t know when to buy back in. It’s that simple. Both actions—selling too soon and not buying back in soon enough—can cause investors to miss out of years of growth and years of dividends.

That’s why Peter Lynch’s quote rings so true. Timing the market is hard.

So we don’t sell in preparation for a crash. But what about saving up cash and waiting to buy? Why not hold cash, wait for the 10% drop (that we know happens every 2 years, or so) and buy in then?

Well, I looked at that too. Back in March ’20, my “Viral Stock Market Strategies” article (get it? viral?!) looked at an assortment of supposed strategies that involved holding onto cash while waiting for the market to drop. I back-tested these strategies against the historical S&P 500 data, and simple dollar-cost averaging beats all the “wait for a drop” strategies.

You think there’s a market crash coming? I know, me too (eventually). There’s certainly a chance that holding onto cash and waiting for the crash is correct right now. But if you try that tactic over time, it’s a losing strategy.

Don’t sell. And don’t wait to buy. Carry on with your normal investing cadence.

Don’t do something. Just sit there.

Jack Bogle

“But what if it’s the crash?!”

What if what’s coming is the big market crash? The mother-of-all-crashes! What if society falls apart? Or if a meteor hits Earth and life changes as we know it? What if we all start scavenging for beans and scrap metal and fuel for our souped-up dirt bikes?

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Mad Max – where fuel and water are all that matter.

Scary questions, but they have a pretty simple answer. If an existential threat ruins your investments, then the stock market will be the least of your worries. That’s it. If “the big one” hits, then the stock market will be one of many societal structures that no longer matter.

If it’s not “the big one,” then the market will recover. It always does.

Why? Why does the market always bounce back? In part, it’s because humans are resilient. We learn and grow and work towards progress. While this year’s COVID market recovery can be attributed to many different factors—like the Federal Reserve lowering interest rates—it can also be attributed to human resiliency.

If “the big one” is coming, then shouldn’t you just “YOLO” and spend your money now? Yeah, you should. I suppose we all need to do some probability analysis.

  • What are the odds that “the big one” is about to come and you look stupid that your investments become worthless?
  • What are the odds that “the big one” never comes and you wish that you had invested in your younger years to enable retirement?

I’ll take my chances and save for retirement.

Crash Landing

So, am I a dummy? I hope I’ve convinced you otherwise.

A 90s Kid's Journey Through the Disney Canon: March 2015

Even though we know that the stock market will eventually succumb to 10%, 20%, or even larger drawdowns, there’s no basis that you’ll benefit by trying to wait or time that market crash. It might work, but it usually doesn’t. That’s what the historical data tell us.

Waiting for the election doesn’t matter either. Democrats, Republicans…the market does its own thing. There might be some causality, but it’s tough to tell.

There are silver linings in corrections and crashes. If you’re investing for the long-term, then corrections enable cheaper prices and greater returns.

And if this market crash is “the big one,” then none of this really matters. It’s hard to blog if the electrical grid fails.

If you enjoyed this article and want to read more, I’d suggest checking out my Archive or Subscribing to get future articles emailed to your inbox.

This article—just like every other—is supported by readers like you.

Source: bestinterest.blog

Home Ownership, Investing

Alternative Investments Are Not Just for the Wealthy

This page may include affiliate links. Please see the disclosure page for more information. We hear a lot these days about alternative investments. Wall Street firms regularly tout their expertise in these investments and try to convince us we need them in our portfolio. In the beginning, alternative investments were only available to what most would consider…

The post Alternative Investments Are Not Just for the Wealthy appeared first on Debt Discipline.


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Home Ownership, Investing

What Is a Roth IRA?

When you think about retirement planning, you may feel like you’re doing alright, especially if you’re contributing part of your monthly paycheck to your employer-sponsored 401(k) plan. You may even have visions of growing old…

The post What Is a Roth IRA? appeared first on Crediful.

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Home Ownership, Investing

How To Get Free Stock: 10 Companies That Will Give You Free Shares

There are quite a few ways to get free stock. This article will look at 10 companies that are offering free shares and cash bonuses to new investors.

The post How To Get Free Stock: 10 Companies That Will Give You Free Shares appeared first on Bible Money Matters and was written by Lorraine Smithills. Copyright © Bible Money Matters – please visit biblemoneymatters.com for more great content.

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Home Ownership, Retirement

7 Things You Need to Know About a Simple IRA

Most people have never heard of a SIMPLE IRA and are curious to know how it differs from a 401(k).

A SIMPLE IRA stands for Savings Investment Match Plan for Employees.

Table of Contents

  • Getting started with a SIMPLE IRA
  • 7 Things You Should Know About the SIMPLE IRA
  • Setting Up a SIMPLE IRA and Maintaining Filing Requirements
  • Where Can I Open a SIMPLE IRA?

Getting started with a SIMPLE IRA

One of the key differences of why your employer may offer a SIMPLE IRA versus a 401(k), is that SIMPLE IRAs are geared for employers with less than a 100 employees.

In addition to that, the administrative cost of a SIMPLE IRA for your employer is considerably much less than what a 401(k) would be.

These are the common reasons why you might see an employer offering a SIMPLE IRA versus a 401(k).

7 Things You Should Know About the SIMPLE IRA

1.  Your Employers Contributions are 100% Vested.

With most 401(k)s you must work for the employer for a certain number of years to be vested.  This means if you were to leave that employer you could take that employer’s matching contribution with you.  But with the 401(k) you have anywhere from three to five years before you’ve satisfied the 401(k) vesting schedule, which is different with SIMPLE IRA.

With the SIMPLE IRA, you are 100% vested whenever the employer deposits that into your account.

This is definitely a huge difference than the 401(k). Both you and any employees you have enjoy immediate vesting, not only of your own contributions to the plan, but also of matching contributions on the employer side.

2. Employers Have To Match in a SIMPLE IRA

Each year, the employer is required to make a contribution to your SIMPLE IRA account whether it be in the form of a match or what’s called a non-elected contribution.  Matching contribution states that the employer has to match at least what you match.  So, if you’re matching 3%, the employer has to match 3% as well.  Note that 3% is the most that the employer has to match, which could be considerably different than compared to a 401(k).

So, if you’re matching 3%, the employer has to match 3% as well. Note that 3% is the most that the employer has to match, which could be considerably different compared to a 401(k).

The employer does have the option to reduce the matching amount to 1% for two of a five year period.  What that means is that if the employer does do this, that they have to match the full 3% for the remaining three of those five years.  The calculation can be a little tricky, but know that your employer is matching no matter what.

If the employer chooses to not match, they may do a “non-elect contribution”. That means they will contribute 2% of your salary.  Even if you are contributing 3% of your salary, they will only contribute the 2%.

3. Employees Control the Investments

With most 401(k)s, you are limited to the investment options that your employer provides you.  This is considerably different when compared to the SIMPLE IRA.  Being a self-employed retirement plan, the SIMPLE IRA gives you the discretion of what exactly you want your money invested into.  If you want to buy individual stocks, mutual funds, ETFs, or CDs, you are allowed.  This is the same feature that a SEP IRA offers.

The investment control factor plays out in two ways:

  • Employee choice of investment trustee. You can designate the plan so that the employee chooses his or her own financial institution to hold the plan. That not only gives greater choice to the employees, but it also relieves you, as the employer, of the burden of managing the entire plan for everyone.
  • Self-directed investing. Participants not only choose the financial institution, but they are also free to engage in do-it-yourself investing. That means they can choose how the money is invested, where it’s invested, as well as the level of risk that they are willing to assume.

4. Employees can contribute 100% of income into a SIMPLE IRA.

You are allowed to contribute up to $13,500 in 2020 and 2021, up from $13,000 in 2019, per year in a SIMPLE IRA.  If you’re over the age of 50, you’re allowed a catch-up contribution, which remains at $3,000.  Please note that the $13,500 (or $16,500) is far less than the amount that you are eligible to contribute to a 401(k).

Nor is it as high as the (up to) $58,000 that you could contribute to either a SEP IRA or a Solo 401(k).

But the SIMPLE IRA contribution limit is more than two times as high as the contribution limit for a traditional or Roth IRA. And the contribution limit for people 50 or older is almost 2 ½ times higher than the $7,000 limit for traditional and Roth IRAs.

The 100% feature of the SIMPLE IRA means that the employee can contribute virtually all of their income to the plan, up to the maximum contribution. That means that if an employee earns $30,000, they can contribute the first $13,500 of their income into the plan (or $16,500 if they’re 50 or older). There is no percentage limitation on the contribution, only the dollar amount.

Yes, it’s true that you can contribute more to other plans, like the SEP IRA or the Solo 401(k). But your business will have to have a relatively high income to reach those levels, since both are percentage based.

But if your self-employment income is less than $100,000 per year, you might find the simplicity of the SIMPLE IRA to be the better choice for your business.

For example, SIMPLE IRAs don’t require filing special reports with the IRS. They also aren’t subject to discrimination and top-heavy testing. It’s more of a group IRA than anything else. And for a small business, simple is a definite advantage.

5. SIMPLE IRA’s Do Not Allow Loans

A lot of 401(k)s have loan provisions that allow the employee to borrow against their money if need be.  With SIMPLE IRAs, this is not the case.  Keep that in mind if you’re thinking that this might be a last resort place to draw money out.

The reason this is true is because a SIMPLE IRA is first and foremost an IRA. And just as you cannot borrow money from a traditional or a Roth IRA, you also can’t borrow from a SIMPLE IRA. That’s probably not a bad thing either. The most important function of any retirement plan is giving you the ability to create a tax-sheltered investment portfolio for your retirement. Since you won’t be able to borrow against a SIMPLE IRA, you’ll be forced to keep the plan for its primary intended purpose.

6. The SIMPLE IRA Two-year Rule.

This is something that should be definitely noted within the SIMPLE IRA.  Most retirement plans — 401(k)s, regular IRAs, or Roth IRAs, etc. — have the 10% early withdrawal penalty if under the age of 59.5.  But with the SIMPLE IRA, it takes it one step further.

If the SIMPLE IRA that you’ve started is less than two years and you cash it out, instead of the normal 10% penalty, you will be subject to a 25% penalty in addition to ordinary income tax.

Do not overlook this.  Keep in mind that doesn’t apply to just cashing it out.  If you were attempting to rollover your SIMPLE IRA into a rollover IRA, the 25% penalty would apply as well.  Remember to just wait the two years before converting into either a regular IRA or cashing it out.

7. The 2020 Contributions Are the Same in 2021

The contribution limit for 2020 and 2021 remains the same at $13,500. The catch-up contribution limit, also remains the same at $3,000. That means that for somebody that turns 50 in the year 2020 or 2021, and has access to a Simple IRA, can contribute a total of $16,500.

Setting Up a SIMPLE IRA and Maintaining Filing Requirements

Setting up a SIMPLE IRA is only a little bit more complicated than setting up a traditional or Roth IRA. You start by selecting a financial institution (which we’ll cover below), and then following three steps:

  1. Execute a written agreement to provide benefits to all eligible employees
  2. Give employees certain information about the agreement
  3. Set up an IRA account for each employee

The written agreement can be completed using IRS Form 5304-SIMPLE or IRS Form 5305-SIMPLE. (5304 is used if each participant will choose their own financial institution. A 5305 is used if you will designate the financial institution for the entire plan).

Neither form is required to be filed with the IRS, but you should keep a completed copy of the form on file, including all relevant signatures. You could also use a pro forma provided by the financial institution that you will be using to hold the plan. It will accomplish the same purpose.

You’ll need to provide an annual notice to eligible employees at the beginning of the election period (or provide each with a copy of either the completed 5304 or 5305 form). That will notify each employee of the following:

  1. The employee’s opportunity to make or change a salary reduction choice under the SIMPLE IRA plan;
  2. The employees’ ability to select a financial institution that will serve as trustee of the employees’ SIMPLE IRA, if applicable;
  3. Your decision to make either matching contributions or nonelective contributions;
  4. A summary description (the financial institution should provide this information); and
  5. Written notice that the employee can transfer his or her balance without cost or penalty if you are using a designated financial institution.

The plan must be set up by or for each eligible employee, and all contributions to the plan must go into it. The plan must be established between January 1 through October 1 of the year. Unfortunately, a SIMPLE IRA cannot have a Roth provision, as would be possible with a 401(k) plan.

Where Can I Open a SIMPLE IRA?

A SIMPLE IRA can be opened through a wide number of potential trustees. These can include banks, investment brokerage firms, mutual fund families, and managed investment account brokers. The process is easy and comparable to opening up either a traditional or a Roth IRA.

For whatever reason, there are fewer investment brokerage firms that accept SIMPLE IRA plans, than other types of IRAs, like traditional, Roth, rollover, and even SEP plans. Below are two investment brokers that we have reviewed (or use), and recommend as a trustee for your plan.

TD Ameritrade

We’ve done a full review of TD Ameritrade and recommend it as a good trustee for a SIMPLE IRA plan. Like many other large brokers, they’ve eliminated trading fees on stocks, exchange traded funds (ETFs) and options. And they have a strong IRA capability in general. They’re a diversified broker, offering stocks, options, mutual funds, ETF’s, futures, Forex, bonds and even certificates of deposit.

Not only do they have excellent customer service, but they also have more than 100 branches located nationwide, in case you prefer face-to-face contact. They also have a Retirement Calculator tool, that analyzes your personal information, goals, income, assets, and risk tolerance, and then shows you how to reach your goals, as well as track your progress.

They also offer more than 100 ETF’s that you can trade for free. All around, TD Ameritrade is an excellent platform to host a SIMPLE IRA plan, or any other type of IRA account.

E*TRADE

We’ve also reviewed E*TRADE, and in doing so we’ve rated it as the best investment platform for active traders. The platform offers free independent research, streaming real-time quotes, customizable planning tools everything that you need for do-it-yourself investing.

At $0 per trade, they’re one of the best in the industry on pricing. But they also offer more than 2,700 no-load, no transaction fee mutual funds. And since they offer virtually every other type of investment or retirement plan, you can use E*TRADE to hold all of your accounts with one brokerage.

E*TRADE is well recognized in regard customer service, which can be reached by phone 24 hours a day. They also offer as much or as little account assistance as you need. And if you want a fully managed account, E*TRADE offers that through their E*TRADE Capital Management arm. That will even enable you to have your SIMPLE IRA plan split between a self-directed portion, and a professionally managed portion.

The post 7 Things You Need to Know About a Simple IRA appeared first on Good Financial Cents®.

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