Don't feel bad if your portfolio has taken a beating lately. You're not alone. The entire stock market has been swooning. The S&P 500 fell around 12% in the first half of the year, and many stocks have fallen quite a bit more.
Even the most respected of investors have taken a thumping. For example:
- Charles Akre has seen his FBR Focus (FBRVX) fund drop more than 19% in the first half of 2008, as top holdings Penn National Gaming (Nasdaq: PENN ) and American Tower (NYSE: AMT ) haven't helped returns. Over the past five years, per Morningstar.com, the fund has averaged a 7.2% annual return.
- Phillip Perelmuter of the Hartford Midcap A (HFMCX) fund has seen his portfolio slide more than 7% in the first half of the year, despite decent returns from holdings Forest Oil (NYSE: FST ) and Universal Health Services (NYSE: UHS ) . It has trounced the market over the past five years, averaging 12.5% returns.
- Bruce Berkowitz's Fairholme (FAIRX) fund, which sports an impressive five-year average of 14%, dropped 6% from December to June. Bad returns for Berkshire Hathaway (NYSE: BRK-A ) have overwhelmed a nice profit on Canadian Natural Resources (NYSE: CNQ ) so far this year.
Natural downslides or bad management?
Part of what elevated these and other money managers to guru status was their performance during strong markets. But is that all we should look at when choosing gurus? Or is capital preservation during bad markets just as important?
I think it's both. Sure, it's easier to make money in a bull market than a bear one. But even in bull markets, the vast majority of managed stock funds fail to beat the market average. So it apparently takes some skill to perform well even when the tide is rising.
Meanwhile, it's important to realize that down markets are part of investing. Occasional losses are inevitable -- and they can be ridden through. The greatest investors have bad months and years. You may brilliantly find a stock that will do wonders for your portfolio, but if it takes a year or more to do that, that can still be fine.
Focus on the long term
What really counts is how our investments fare over the long term, not how they do in a market downturn.
Think about it: You buy into a stock or fund on a given day, and you sell at a future date, perhaps a decade or more later. What really matters are the prices on those two days. Let's say, for example, that you bought into IBM (NYSE: IBM ) in early 1990 for $18 per share (split-adjusted). Several years later, in 1993, it was trading for about half that price. You would have been down about 50%! Would that mean you're a terrible investor? Not necessarily. If you'd hung on, selling in early 2008, you could have fetched around $125 per share. Your investment would have ended with an increase of nearly 600% (or a market-beating 11%, in annualized terms).
Between your entry price of $18 and your exit at $125, the stock price obviously hit lots of levels, up and down. Indeed, some days it surged, and other days it plunged. Over this three-year period it languished, and over that five-year period it soared. Do all these movements really matter to you? In many ways, no. Sure, it's vital to keep an eye on your investments. If a stock is falling, you want to get a handle on why. Perhaps it's mainly moving in tandem with a swooning market, or perhaps it has suffered a temporary setback (a delayed release of a product, maybe) -- those aren't major causes for concern. If it's instead facing some long-term challenges, you might want to rethink your ownership.
The bottom line
Just remember that few investments advance relentlessly upward. Most will zigzag a little, as they head upward. During market downswings, we shouldn't knock any investors for losing ground -- as long as they're likely to make up for it when the market recovers.