In today’s topic, we are going to dive into the stock market itself, both why you should love and (simultaneously) hate it altogether. Let’s dive into the reasons why the stock market is both a friend and a foe at times.
What is the Stock Market
If we look into the stock market itself, we first should know exactly what it is we are discussing. The traditional definition of the stock market shows the following.
The stock market refers to the collection of markets and exchanges where regular activities of buying, selling, and issuance of shares of publicly-held companies take place. Such financial activities are conducted through institutionalized formal exchanges or over-the-counter (OTC) marketplaces which operate under a defined set of regulations. There can be multiple stock trading venues in a country or a region which allow transactions in stocks and other forms of securities.https://www.investopedia.com/terms/s/stockmarket.asp
Large stock markets around the world are classed in different geographic markets – Top 10 Stock Markets.
- New York Stock Exchange
- Tokyo Stock Exchange
- Shanghai Stock Exchange
- Hong Kong Stock Exchange
- London Stock Exchange
- Shenzhen Stock Exchange
- Toronto Stock Exchange
- Deutsche Boerse
However, after we identified these markets, we need to separate this definition into two separate components based on investor styles. The first component is “Traditional Investor” mindset – Owning portions of companies and expecting growth or return on your investment. This investor mindset is typically focused on longer timelines; typically in 10+ year increments.
The second component is more of a “Trader” mindset – Treating the market as slips of paper with the potential of either growth or losses and actively buying and selling to make a profit. This trader mindset is typically focused on the short term (months, years) or very short term (days, weeks).
Both of these mindsets seek to accomplish the same goal of making money (return) on their investment but use the stock market(s) in very different ways. The traditional “investor” will be happy to maintain longer term ownership, gather dividends and not be actively involved in day to day or month to month market action. The “trader” mindset will typically be glued to the daily news and the affect on the stock markets; whether good or bad news, they will seek to actively use this information to seek profit from the market.
Why you should love the Stock Market?
Now that we know what the markets are and some mindsets associated with different ways to approach “investing” or “trading”, why should be love the stock market?
In this case, based on current economic conditions, we are still within a historic period of extremely low interest rates – Previous rates fluctuated between 4-20% but the past decade has been near zero. So what does this mean for the stock market?
This means that the prevailing interest rates are actually dragging “safe return” rate of interest based on saving money into a period of negative interest. For example, traditional banking offers interest rates of 0.08% in 2021 (negligibly close to zero), this means at the prevailing rate of inflation – Current Annual inflation for the 12 months ending in July 2021 is 5.37% – The actual return from placing your money into a banking situation is negative 5.29% annual return.
So if we are seeing a negative 5% return from traditional banking, how does the stock market help us or how do we benefit by using the stock market? Well, we will look at the traditional return of the US based stock markets, we see a strong bias to go up over time. Based on both the Dow Jones and S&P 500 indices, we see a tendency to yearly growth (not every year) but over time, the market continues to grow in value. This is summarized nicely by financial expert, JL Collins in his blog post – https://jlcollinsnh.com/2012/04/19/stocks-part-ii-the-market-always-goes-up/
Furthermore, based on the charts below, we can see the yearly return for the last 10+ years is substantially better than the prevailing interest rates as discussed above – This can generate a positive 5-20% return vs a -5% return with traditional banking. Furthermore, based on the traditional “investing” approach over time, you also get paid to hold onto these portions of companies in the form of dividends. Based on this, your likely return through the stock market would tend to make money over time through both stock growth and dividends.
This is a strong case for loving the stock market – Let’s look at why we might want to hate the stock markets next.
Why you should hate the Stock Market?
Conversely, why you should hate the stock market is exactly the opposite reason why you should love the stock market.
First, the stock market appears to be the only game in town to make money due to the limited return based on current interest rates; this causes too much reliance on the markets and can potentially expose investors and traders to additional risk in their portfolios. With a high level of dependence on the market, any instability can lead to large swings in stock prices; with potential to lose money if stocks are sold at the wrong time or during periods of negative returns.
As you can see in the graphs above, for every period of stock market pricing increase, we also can see large drops into negative territory, with regular frequency. Based on some of the charts above, we can see that sizeable negative events happen with regularity and high frequency. This can make anyone looking for short term growth very upset that the market can reduce or eliminate their stock position at any time. This volatility can be magnified by using borrowed money (leverage) to invest in stocks, as the loan must be repaid with interest even when the stock price has dropped significantly or even the initial investment amount has been lost completely.
Additionally, we see that the charts above are for the market as a whole – with many companies grouped together to make the index itself. However, with individual investing it’s possible that you are favoring individual companies that may not fare the same way as the market itself – Every day the markets show that there are companies that can drop in value for financial reasons, news or just general market feeling – Not a comforting thought as you invest your money into a company with expectations that it will grow and you find a large drop in value immediately after your purchase. What are your options in those instances, you can continue to hold or sell at a capital loss; with some assistance on your taxes.
Finally, we also have large influences on the stock market – Huge investment houses, hedge funds, media and general investors all trying to predict which way the markets will move in the short term (up, down or sideways) and this adds additional volatility with all these opinions and funds working in opposite directions to determine the market direction.
These are some of the reasons (with many more possibilities) to hate the stock market.
So now that we know the different investor styles, what the stock market is and why we either love or hate the markets what do we do with this information? Well this is a good opportunity for reflection to see if you are comfortable with investing in the stock market at all in the first place?
So based on these examples listed above, we leave it to you to determine what your thoughts are on the stock market in the current low interest economic environment. If interest rates rise, perhaps the market will be impacted differently in the future. Additionally, we didn’t even talk about real estate, bonds or other investment vehicles – We will visit these topics soon as well.
For now, we hope this article gives you reason to think either positively or negatively with regards to the stock market. We would love to hear your feedback below – Please leave a comment.
Thanks for reading and stay safe.
The Lab Manager
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