1 Critical Thing Americans Need to Know About the Stock Market

While the stock market may seem scary, one fascinating reality from Warren Buffett proves why people need to put aside their fears and begin investing.

Apr 19, 2014 at 12:05PM

Millions of Americans have missed a crucial reality surrounding investing, and you don't want to be next.

The big concerns
As a result of concerns around the American economic recovery, recent news surrounding high-frequency trading, and general skepticism directed toward the stock market, many think stocks are headed downward in the coming months. These things have led many to believe now is the time to pull money out of the market and stop investing altogether.

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In addition, over the past 15 years the S&P 500 (SNPINDEX:^GSPC) has risen from 1,250 at the end of 1999 to 1,850 at the end of 2013, a gain of about 45%. This means the index averaged just a paltry annual growth rate of 2.6% a year, narrowly ahead of what many suggest is the normal rate of inflation, or what the cost of everyday goods typically rises at.

When you add this poor return in with the factors I mentioned, plus the concern surrounding the prospect of losing money, many have come to the conclusion that investing in the stock market is a waste of both time and money.

Yet such an attitude would be a colossal mistake.

The remarkable reality
One of the most important things to know about the stock market is the remarkable power of putting money each month into an index fund that tracks the returns of the stock market. Many brokerages allow individuals to put a certain amount each month into a fund no matter what the market conditions are, through an automatic withdrawal.

From 1999 to the beginning of 2014 there were 180 months. For the sake of ease, let's compare Peter, who put in $200 a month into an S&P index fund -- so $36,000 total over the 15 years -- to Mary, who had $36,000 at the beginning of 1999 and dropped it all into the index at once.

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Since Mary has more than more money to start, you'd probably guess by the end of it that she'd still come out on top. After all, Peter would be buying in during two dramatic stock market booms and ultimately busts, and the past 15 years have largely been characterized by an immense deal of trouble.

But it turns out she loses. Peter ends up with $54,500 and Mary finishes with $52,500.

And while that $2,000 difference doesn't sound like much, it's important to know that those 15 years encompassed years whose return ranked 89th, 94th, and 99th over the past century. Dealing with three of the worst 11 years and still being able to come out on top truly shows the value of investing.

The thing to remember
It's critical to understand that investing shouldn't simply encompass a 15-year time period, as that is truly a short period when you consider the decades spent working and saving toward retirement. But this example serves as a vital reminder that even when the times are choppy and the prospect of investing is scary, there is true value in patiently saving each and every month.

Undoubtedly, there will always be reason for concern surrounding the stock market. Yet there is immense value in patiently investing over the course of a lifetime, known as dollar-cost averaging.

In fact, when asked what advice he would give to non-professional investors, Warren Buffett once said:  

If you like spending six to eight hours per week working on investments, do it. If you don't, then dollar-cost average into index funds. This accomplishes diversification across assets and time, two very important things.

While it isn't the most glamorous and won't grab headlines, there is truly great value in patient investing and saving, no matter what someone says the stock market may or may not do.

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Patrick Morris has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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