The stock market rallied modestly in the first two and a half months of 2023, but that has not been enough to make up for an abysmal 2022 during which the S&P 500 index plunged by nearly 19%. Plus, new concerns about the banking industry that began with the collapse of Silicon Valley Bank earlier this month have left many investors on edge.
It's frustrating to watch your investments stagnate or drop in value. So it's understandable that many people are wondering: When will the stock market recover? But that's the wrong question to ask. A better question would be: How much volatility can I withstand?
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No one knows when the stock market will recover
Heading into 2022, the median prediction among 45 strategists polled by Reuters was that the S&P 500 would climb by 7.5% to 4,950 that year. The index is a closely watched barometer because it represents more than 80% of the value of the U.S. stock market. Instead, the index's 19% drop made 2022 its worst year since the financial crisis of 2008.
The truth is, Wall Street has a lousy track record when it comes to short-term predictions. The good news is, that doesn't matter to long-term investors. History strongly suggests that a recovery will happen at some point. We simply don't know when.
The average annual U.S. stock market return over the last 50 years has been about 10% before you adjust for inflation. Few of those years have actually delivered returns in the neighborhood of 10%, though.
For example, in the 50 years between 1972 and 2021, the S&P 500 had 19 years in which its returns exceeded 20%. Just three years saw losses of more than 30%. But over long periods of time, the stock market has a stellar track record. Between 1928 and 2018, 94% of 10-year investment periods delivered positive returns. And over 20-year stretches, returns were positive 100% of the time.
Consider your risk tolerance instead
Instead of trying to time your investments, consider your risk tolerance. If you're planning to retire in the next couple of years and your blood pressure rises every time the stock market dips, you have a low risk tolerance. You may want to consider investing conservatively by allocating more of your money to safe investments such as bonds and blue chip dividend stocks.
But if your retirement is more than a decade away or your reaction when the stock market nosedives is to invest even more, you have a higher risk tolerance. You'll want to focus primarily on stocks, including those with greater growth potential, though those also carry higher risk.
Two important caveats, though: Even if you're a risk-averse investor, there are big risks to playing it too safe. A $100,000 investment in the Vanguard Total Stock Market ETF (VTI -0.47%) made at the beginning of 2008 would be worth roughly $350,000 today. But the same investment in the Vanguard Total Bond Market ETF (BND -0.28%) would have grown to just $145,000. Taking too little risk means you'll have to invest significantly more, and you may not achieve enough growth to build the nest egg you require.
VTI Total Return Level data by YCharts.
Secondly, even people with high risk tolerances should typically have a small portion of their money invested in safer assets like bonds, and they should gradually shift their asset allocations in a more conservative direction as they near retirement.
Generally, you should avoid investing money in stocks if you expect to need it in the next five years. But if you have a longer time horizon, the stock market is a fairly safe place to invest your money. Recoveries from downturns are almost inevitable -- but trying to predict the timing of one is a futile exercise.
