What would you do if the market dropped 50%? Would you sell all your stock and move to bonds? Would you stay the course? Today I want to explore what we did in exactly this situation during the 2008 great recession. Also what our actions mean for our interpretation of risk going forward.
Before we get started, credit where it is due. The idea for this post came from a Twitter thread by Route2 Fi asking “At what level will you sell off and go into 100% cash?” His question got me thinking.
To Date, Our Recession Articles Have Spoken To Main Street. 2008 Was About Mainstreet
I have written a few articles about my experience during the 2008 recession. Most of those have covered the potential loss of a job and reduced income. They also focused on the downfall of many of our neighbors and friends.
The real fear in 2008 was on Main Street. It had nothing to do with the stock market. The market is a bit of an abstract concept when a large portion of your neighbors are suddenly homeless or unemployed. Also, my holdings in the market were peanuts compared to my earning potential at that point. So in a way, I have glossed over to date what happened in the stock market and how I felt about it simply because job loss was the bigger fear.
A 50% Stock Market Decline Occurred during the Great Recession
But just because the fear of market decline was overshadowed by the broader economy does not mean the stock market slide was easy to digest. Pain is relative, and a relatively quick loss of 50% of my meager life savings at the time was painful. I say 50% of my life savings because I was still defining my risk tolerance at the time. I was nearly 100% stocks in 2008, a number way higher than where I should have been (or am today).
That 50% loss did strike fear into me. I wasn’t the only one. Even venerable buy and holders from sites like Bogleheads were fighting the urge to gravitate towards cash. But I didn’t flinch or sell. I wish I could tell you it was because of great planning and rock hard risk tolerance. That would be a lie. I am prepared these days based on my tolerance simply because I remember what it was like not to be.
Why I Didn’t Sell After a 50% Stock Market Decline in 2008
No, the reason I didn’t sell was two-fold. Firstly I was oblivious to much of the initial drop. I had a lot going on in my life at the time. I didn’t even notice the drop until it was somewhere around a 45% decline. Simply forgetting about the accounts saved a huge portion of my assets from my own stupid tendencies.
But what about the remaining drop from 45% to more than 50%? What about the potential to go beyond that point? Well here is where it gets interesting. Again not pulling out had nothing to do with risk tolerance. Instead, it was logic in my own brain. It basically said that if the market halved again the market would be the least of my worries.
There Comes A Point Where There Is No Place to Hide
The reality is, 50% declines in the stock market are not abnormal. They are events that will probably happen a few times in each of our lives. You should expect and plan for such a decline. I am currently set-up for a risk tolerance to support a 60-70% decline in the market. Since I can’t guarantee I will be distracted during the next downturn, I have essentially ensured my asset allocation will keep me comfortable at least until that range.
But what about if the market drops 70%. Well, let’s be completely honest here. There is a point where the corporations, banks, and government all go out of business. I don’t know where that point is. But I do know if we ever hit it investor confidence would be shattered. There would be nowhere safe for your money, making the pull out a moot point.
2008: Any Worse and The Market Would Be My Smallest Concern
That is also how I felt at the bottom of the trough in 2008. If the market dropped another 50% the faith of people in US currency would also collapse. So running to cash would be illogical. So where would you go?
Some doomsday preppers would say gold. But is that really safe? If the company holding the gold for you goes bust, how are you getting your gold to spent exactly? If you hold it under a mattress you’ll have gold. But if the resources to survive are scarce no one is going to trade them for gold. That’s before you consider that you now have a theft target on your house.
Survival Trumps Retirement If the Market Fully Collapses
In essence in a world screwed up enough for the market to be worth 25% of today your concern is probably more on survival than retirement. Food and shelter would be my top concerns at that point. In essence, your portfolio has to support you to a certain level of risk. Beyond that point, we’re all just f##### anyway.
I realize that’s a pretty depressing note to end with. It’s not meant to be. But it is meant to illustrate you need to be prepared for some radical declines in the market. They are common. But you don’t have to be prepared for a complete collapse. Except perhaps if you are a doomsday prepper. In that case, I’d recommend guns, food, and land over any financial asset.
For those who are old enough, how did you feel about the stock market slide of 2008? What would you do if the market drops 50%?