When stock indexes keep going up, it’s easy to hold onto your investments and enjoy the ride. But when markets go down, you may be tempted to sell.
Nobody likes losing money on their investments. And when markets start dropping, it seems like they can go down forever. And that can be pretty scary.
But if you do sell, you’ll be locking in your losses.
Here’s an explanation of what that means:
- You initially buy stocks, bonds, and exchange traded funds (ETFs) at a predetermined share price.
- That price fluctuates on a daily basis, based on what’s going on in the market. That means the price can increase or decrease in value.
- If it increases, you have a gain. If it decreases, that means you have a loss.
What are losses?
Here’s a simple example:
Let’s say you bought $10 worth of shares in an ETF on Stash (say Roll With Buffett or Blue Chips). If the value of those shares increase to $15, you have an unrealized gain of $5. If that same value decreases to $3, you have an unrealized loss of $7.
Understand, you have a loss on paper, in your account, but it is not realized until you sell it.
There’s a temptation to sell when the markets go down, because you’ve lost money in the short run. That temptation may be particularly strong if lots of other people are selling, and there seems to be a stampede for the exits on a particular stock or fund.
If you follow their example and sell, there is no chance you’ll ever make back the money you lost by selling.
Keep this in mind: When you invest in the market, you should establish a long-term horizon, generally of many years. If you’re investing for retirement, that time frame could easily be 30 years or more.
Buying, holding, and investing for the long term
By buying and holding onto your position, and even adding to it as stock prices go down, you have the potential for more gains over time.
Although it’s impossible to predict the future, if the past is any indication, an investment in a fund that tracks the S&P 500, an index made up of hundreds of the largest companies in the U.S., would have made an average 9% over the last eight decades.
Of course, that stretch of time contains some very bad years, including the Great Depression, and the more recent financial crisis of 2008. But if investors sell their stocks on the dips, they have no chance of earning back those losses over time.
Should you ever sell?
This is not to say you should never sell. When you own stocks in individual companies that lose money, you may want to consider selling, for example if that company starts to have serious trouble meeting its earnings forecasts, or if the industry it’s in starts to deteriorate. Then it may make sense to get out.
There can be similar situations with funds, but they are different investments vehicles that tend to spread out risk by owning shares of numerous companies at once.
Some funds focus on specific sectors, for example technology or retail, and those can tend to be more volatile, meaning their share price can be subject to wide and sudden swings in value. That’s because they focus on one area of the economy. Others have a broader focus, and may for instance follow an index such as the S&P 500, with a large number of companies in numerous sectors.
In the end, you need to research any fund you’re thinking of buying, and buy numerous kinds of funds that give you broad diversification in the market. That means you should aim for a variety of assets and asset classes, including stocks and bonds, in developed as well as developing countries. Finally, establish a long-term investment strategy that keeps you in the market.
In short, make sure you understand whether it’s the right time to lock in your losses and sell.
Read more: 4 Things I Learned From Financial “Advice”
Jeremy Quittner is the financial writer for Stash.