How to Invest in a Down Market

The good times can’t last forever. What goes up must come down. That’s the way of the world — and a big reason why many stocks and bonds have fallen in value after a boisterous last year and a half. 

The good news is: the good times will return. The bad news is: that doesn’t make the bad times any less negative. If you have a family or people relying on you, you might be worried about things like layoffs, your savings, your financial plan, and your legacy.

Those are valid worries to have, especially given the widespread coverage of the bear market in the U.S. Odds are, you’ve lived through some very memorable bear markets in your lifetime. Think: Black Monday in 1987, the dot-com bubble in 2000, the Great Recession in 2008, and the COVID-19 crash in 2020. 

During all of these downturns, it wasn’t just stocks that were suffering, but people and families—and if you’ve lived through one or more of these, you’ve probably experienced being laid off, running low on cash, or having to adjust your budget for harder times. 

Thankfully, the aforementioned bear markets are exceptional in how significant they were. They are memorable because of their impact. And so far, the 2022 bear market doesn’t have the same makings of these other bear markets.

In the worst case scenario, you’ve had the inconvenience of watching your investment accounts shrink or been laid off from a business which grew too fast during COVID. But in the best case scenario, you’re weighing the good and the bad—and looking at an opportunity to buy into stocks at a discount to their COVID highs. 

Let's talk about the lessons you can pull from the stock market's recent weirdness and how you can take them forward to build generational wealth, even while the market is down.

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What happened to stocks during the COVID-19 pandemic?

The COVID-19 pandemic has rightly earned a distinction among people for the chaos it caused in all aspects of life. Nowhere were its effects more clear than in the stock market and economy. 

At the start of the pandemic, the stock market and economy appeared to be closely-connected. As stay-at-home orders forced the U.S. economy to close, well-regarded stock indexes lost a significant portion of their value. In fact, the S&P 500, which is revered for being the world's most-watched index, lost over a third of its value.

What happened next was less-expected: while the unemployment rate rose to over 20% and the economy entered a recession because of the effects of the pandemic, the stock market began to recover.

• The stock market recovered quickly, and the S&P 500 was back to its pre-pandemic levels by August 2020.
  
  
• Not long after, the S&P 500 hit an all-time high. All this while the economy was widely shutdown and experiencing recession.
  
  
• In total, the S&P 500 went on to set 33 record highs in 2020. In 2021, it set 70 more record highs.
  
  
• And as soon as the economy started to reopen, the stock market ironically started trending the other way. In 2022, the S&P notched just one record, then fell more than 20% and entered a bear market.
  
  
• Even as the stock market fell, the U.S. economy continued to grow in 2022, with signs that the growth would continue into 2023. That divergence came even as the talking heads and the media warned about a recession.

Nobody can predict the future, but if you asked finance experts what they thought would happen at the start of the pandemic, it's reasonable to assume that nobody would have been even close to the outcome we got.

What’s the takeaway? Well, after two years of market growth, stocks and bonds started to go the other way. By the start of 2023, arguably the waning days of the pandemic and all its weirdness, stocks were actually below where they were before the pandemic.

Why do markets go down?

Political-types and talking heads conflate the stock market and the economy all the time. But as we can tell from the performance of the stock market and economy during COVID-19, they’re not as connected as people think.

The truth is that many families struggled during economic crises, much like the one brought on  by the COVID-19 pandemic—and the stock market kept tearing upwards. On the other hand, the popular S&P 500 index fell even in periods where the U.S. economy expanded—a time you’d expect stocks to rise—-as measured by the Gross Domestic Product (GDP.) 

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This divergence has a lot to do with people’s own opinions and views of the economy, or certain industries and parts of the stock market. That’s because a market is just a reflection of people’s opinions about parts of the economy. 

As you know, in the early days of COVID-19, the opinion of the economy was negative. Most assets fell in value during this time. However, once the sentiment about the economy improved, market players started buying back the stocks, bonds, and other assets they sold. 

This wisdom, or the lack thereof, is a leading reason why many people lose money in the stock and bond market. Inexperienced investors who believe that they can beat the market suffer from believing that they're first to recognize a big trend or investing opportunity from a part of the economy. 

The reality is that big trends and investment opportunities are often identified by larger, more influential market participants like investment banks and research analysts. When you zoom out and consider just how many banks, analysts, and individual investors there are, you start to get an idea of how complex the stock market and its opinions can be—and how futile stock picking can be for everyday people.

These constantly-changing views can distort the actual value of a trend or idea, or even create large fluctuations which financial circles refer to as volatility. Many Americans can remember the GameStop and AMC Entertainment stock drama from 2021, which is a great example of how near-term opinions and views can change the value of a stock.

Volatility can best be described as the ups and downs of the market. All markets experience this moodiness, much like an emotional adolescent or a toddler. It also happens to work in your favor. Many leading financial experts agree that market volatility offers consistent long-term investors a way to grow their wealth. 

We’ll touch on how it makes all the difference in your investment strategy up next.

Why should I invest in a down market?

There's a common expression among finance professionals: money isn't made in the bull markets, it's made in the bear markets. Many experienced investors sock away cash for downturns, then take advantage of the discounts in markets to make big returns.

In a way, you can copy and paste the strategy that many wealthy people do—albeit, with fewer variables and timing. Instead, you can simply make a plan to invest a portion of your paycheck into various investments and savings.

This is an extremely valuable way to build equity in yourself and your family, whether you’re saving for retirement, your child’s college education, or for another goal you hope to hit.

Here at EarlyBird, we help parents tackle one aspect of that financial picture: investing in their child’s future. Raising a child is emotionally (and financially) intensive—but as you hopefully have learned by now, it’s well worth it. We untangle the complicated financial part, helping parents make consistent and high-quality investments for their child.

We encourage parents to make an effort of consistently investing in their child’s account over the long term, regardless of any headlines they read, political alarmism, or worries about the price of stocks or bonds. That’s because, over the long run, it is proven to even out: over the past 91 years, the S&P 500 has finished 66 years in the green. In other words, just 27% of the years are negative ones for the world’s most popular index.

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When you’re thinking about building a legacy, creating generational wealth, and building equity in your child, just remember that stat. In spite of any short-term negative press, stock markets generally appreciate in value over the long-run—and an investment today in your child today could go far over 18 years.

How should I invest in a down market?

Investors benefit from making consistent, timely contributions to their investment accounts. Over time, buying diversified funds without regard to market conditions will make you more money than trying to time the market or play individual stocks.

Investors call this strategy dollar-cost averaging, and it looks a little different for everybody. Consider...

• Setting up automatic monthly transfers from your checking account to a brokerage account.
  
  
• Enrolling in your workplace 401(K) plan and contributing at least enough to receive the full employer match (free money.)
  
  
• Putting money away in a Traditional or Roth IRA to gain tax benefits for investing.
  
  
• Taking advantage of education savings plans like a 529 plan to save for college, either for yourself or your child.
  
  
• Participating in any other workplace or personal savings plan that confers tax benefits.

Ultimately, by compounding the benefits of dollar cost averaging, tax-saving qualified accounts, and your workplace match, you can rapidly build a substantial nest egg. And once you've exhausted all the conventional "money glitches," you can open up additional brokerage accounts to save for other goals.

What should I invest in?

By now, hopefully you've collected that buying high-quality investments consistently is the fastest way to build wealth.

However, you might be wondering what kinds of investments you should buy. The short answer? It depends.

Most Americans invest through a workplace plan like a 401(K), which usually means less control over how your money gets invested. However, if you're pulling out all the stops with your money moves, you’re bound to have more options and control over investing through an Individual Retirement Account or a brokerage account.

That optionality intimidates some investors, which is why some turn to financial advisors or robo advisors like EarlyBird. We help parents build a foundation for their child by allowing them to open an investment account in their child’s name called an UGMA.

Recurring deposits scheduled by a parent or gifts from family and friends are then invested into the child’s portfolio through exchange-traded funds, or ETFs for short. We work with iShares, a leading provider of ETFs, to provide diversified investing opportunities to investors.

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