Worried about market crash? Use emotions to understand cost of pulling out

Here is how you can get through a stock market crash using emotions and not just logic

Worried about market crash Use emotions to understand cost of pulling out

Published: March 24, 2020 at 10:08 am

Last Updated on

If you asked mutual fund investors a few months ago, what are the chances of a 10-year SIP return falling below single digits or the markets falling 37% in 20 trading sessions, the answers would probably be, unlikely, even if it does, there will be a v-shaped recovery and other such epithets. After the fastest fall in the history of the markets, investors have begun to hit the panic button: should I pull out now and re-enter? Should I stop my SIPS until the markets recover? In this article I argue, unlike what “experts” would advise, investors must use their emotions to understand the true cost of pulling out of the equity markets at this time. Do share this article with your contacts who may be getting stressed out by recent market developments.

Fearing loss is a natural human emotion. We cannot get rid of it and the good news is that we do not have to. We only need to step back a little and understand which loss is more important, which loss should first be minimised.

I see financial experts and advisors scared of losing commissions tell investors to leave emotions out of it. This would simply not work. Emotions are what we are. It is a simple matter of adding some commonsense to it.

Imagine you are in charge of a huge water storage facility. It develops a leak and the water level is falling at a rate more than the rate of inflow. You realise that it has to be addressed. However, you step back and inspect the facility all around and recognise that there is a huge crack on another side almost ready to give away but not leaking right now.

What would you do? Address the visible leak first or strengthen the crack first? The leak is important but it will not empty the water resource immediately. The crack, if not fixed could result in a huge rupture resulting in an instant loss of all the water.

When we see it that way, fixing the crack is more important. Why? We simply cannot afford to lose all the existing water all at once. We are emotional about our need for water. Just that, we took a step back, understood the full picture and decided that it is logical to repair the crack first and then address the visible leak.

There is more to it that just cold calculated logic. We decided that it is logical to be more emotional about the crack first. This is what is necessary at this time. Step back and recognise that if we get scared about the equity markets and pull out now, we can never ever accumulate enough for retirement. We can never ever manage rising costs once we stop working.

We can never ever get out of the rat race where the next month’s salary decides our lifestyle for the next 30 days (or 20, or 15 if you ask young earners today). We can say goodbye to all dreams of a comfortable lifestyle.

While it is natural to feel fear, sadness and regret about the current losses in the stock market, we need to look ahead a bit and recognise if we do not take on risk now when we are young with decades left to achieve our goals, the fear, sadness and regret will become permanent.

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So let us be emotional about our future goals, emotional about our ability to live independently in future, emotional about our children’s ability to pursue their dreams. The fear of falling short of these is much, much greater than the fear of losing money daily in the market. Let us be emotional about our long term goals. There cannot be any greater reason to stay invested in equity:  the right amount, with the right plan.

Hang on! Why will I not achieve my dreams if I pull out of the stock market? You will have to invest significantly more money in fixed income because you are guaranteed to get a return lower than inflation even before tax.

All the stock markets offer is a chance (not a guarantee) to get better returns than fixed income. Along with this chance comes along the baggage of huge profits and huge losses which cannot be done away with.

Take that chance of achieving your dreams when you have the time to spare with the limited amount of money you can invest with a plan or choose the path of guaranteed failure with lower returns and never achieve your dreams.

Recognise that this is not just logical reasoning. This is emotional reasoning. If the prospect of ending up trying to make ends meet all our lives make you emotional nothing will. Channel that emotions to weather this storm.

Why do you think people who lived on rent all their lives buy a house with a vengeance as soon as they can? Emotion. Many (if not all) rags-to-riches stories are centred on emotion.

This is my first crash too and I am sticking to my plans because I am emotional. I stuck to my plans although my portfolio never gave any returns for the first five years because I was emotional about my future. I did not want to end up in debt again: My Money Story (Or is it yours?): From Despair To Control To Contentment

Let us exploit our emotions and prioritise them. Sure not everyone can do this, but who says everyone should/can do everything! Only those who want something badly enough would be willing to suffer hardship on the way.

Logic alone is necessary if we were to run an analysis or review a fund. This our money, our future. Emotion is the king, we just need to remember what to be emotional about more. Let us fix the cracks first and then address the leaks.

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Pattabiraman editor freefincalM. Pattabiraman(PhD) is the founder, managing editor and primary author of freefincal. He is an associate professor at the Indian Institute of Technology, Madras. since Aug 2006. Connect with him via Twitter or Linkedin Pattabiraman has co-authored two print-books, You can be rich too with goal-based investing (CNBC TV18) and Gamechanger and seven other free e-books on various topics of money management. He is a patron and co-founder of “Fee-only India” an organisation to promote unbiased, commission-free investment advice.
He conducts free money management sessions for corporates and associations on the basis of money management. Previous engagements include World Bank, RBI, BHEL, Asian Paints, Cognizant, Madras Atomic Power Station, Honeywell, Tamil Nadu Investors Association. For speaking engagements write to pattu [at] freefincal [dot] com

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5 Comments

  1. In this text near the end.. “This is emotional reasoning. If the prospect of ending up trying to make ends meet all our lives does not make you emotional anything will.”

    Shouldn’t anything be replaced by nothing?

  2. Hi Pattu,

    I am a new invester, started investing around in equity and debt 6 months ago. I have invested around 70k in PPFAS LTE and its currently down to 50k. I didn’t intend to pull out but the seeing my money go down by 4k yesterday makes me wonder if I should pull it back, keep it in a liquid fund and invest when the market gets a bit stable. Yes it won’t matter much in long term but I don’t think at this rate I’ll be left with anything and will have to start from scratch anyway.

    Thanks,
    Manav

  3. I think this article is the need of hour. We all invest with so much excitement when markets are moving up. But can’t stomach such falls where the root cause is not even economic or financial health of a nation. It’s again an emotional reaction to a pandemic. I feel we need to maintain right asset allocation now and stick to ours plans. If you pull out now, it’s a lost opportunity that we may repent later.

    Thank you pattu sir for this perspective !! Right in time !

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