One of the most challenging aspects of being an investor is overcoming your emotions. After all, they can be extremely strong and, for many investors, are the key reason why they choose to buy, sell or hold at any given time.
For example, with the FTSE 100 having fallen by hundreds of points in the last couple of weeks, many investors are undoubtedly feeling as though now is a bad time to buy shares. After all, the world’s second biggest economy, China, is enduring a tough transition from a capital expenditure-led economy to a consumer-led economy. This change is painful and is unlikely to be smooth but, for long term investors, it presents an opportunity to buy low and sell much higher further down the road.
That’s because, as history shows, no downturn lasts forever. Even the most serious of recessions eventually makes way for an economic boom. For example, the FTSE 100 hit a low of around 3500 points in March 2009 and just six years later was trading at over double that level. And, while very few investors piled in at such a low level, even buying a little early or a little late would have had a similarly positive effect on returns in the intervening period.
The problem, though, is that when the FTSE 100 was trading at around 3500 points in March 2009 (and during other severe market falls), there is a very real threat that more pain could be yet to come. In other words, an investor could buy when things feel at their blackest and blood is certainly running in the streets, but things could get worse before they get better. This fear of mis-timing the market leads most investors to either wait too long, or else give in to their gut feeling, sell up and walk away. This, though, is the wrong approach and, in the March 2009 example, would have led to high realised losses and a failure to benefit from the subsequent bull run.
The answer, then, is to forget trying to time the market and find the perfect moment to invest. Realistically, such a moment is impossible to find, since the short term movements of shares are dependent upon economic data, investor sentiment and other factors that are impossible to foresee. Instead, it makes sense to view shares as individual companies of which a small part could be purchased.
In fact, by focusing on things such as their financial standing, customer loyalty, range of products, valuation, yield and other financial ratios, it is possible to build a picture of whether the stock is worth buying. Certainly, its short to medium term prospects may be very opaque, but a high quality company is likely to ride out economic difficulties and prosper in the long run. As a result, its performance over a number of years should be positive and lead to a relatively high total return for its investors.
So, while there is no easy way of assessing when the FTSE 100 has bottomed out, there is a simple way of overcoming the emotions that come with a severe market fall. By focusing on companies as businesses and taking a long term view, it is possible to make clear, logical and decisive moves which are more likely to deliver an impressive level of profitability than relying on gut instinct or emotion.