Here is a basic truth: stock prices rise and fall.
Of course, literally speaking, this statement is true. But it's misleading. That's because the statement is incomplete; it's not really accurate to say that stock prices ''rise and fall.''
Oh, sure, on any given day, prices might rise or fall. But over long periods, it's more accurate to say that prices in the overall stock market rise a lot but fall a little, as shown in the image.
This chart clearly shows that when stock prices are rising, they rise a lot and for a long time.
When prices fall, they fall a little and for a short period.
This explains the real reason why the stock market is able to exist.
Think about it. If stock prices were to only rise and fall, there would never be growth in the economy. It would force investors to decide when to buy and when to sell.
Imagine playing with a yo-yo. It goes down, then it comes up. Down, up. Down, up. If that yo-yo were a stock's price, the trick would be to catch it and release it at the right time. But as the chart shows, investing in the stock market is like playing with a yo-yo while climbing a hill. Even though the yo-yo is still going down, up, down, up, the height of the yo-yo is constantly climbing, thanks to the hill's incline.
Here's another way to put it: The market doesn't simply go up one point and then down one point. Rather, it goes up two points, then down one point. Then it goes up four, down one, up three and down one. Sure, sometimes the down is larger than the previous up, but over long periods, the stock market has always produced net profits. That's why it's wrong to be upset when stock prices fall. Instead of lamenting the current decline, focus on what is about to happen next. This point is particularly important following 2008's terrible performance.
But if you had the opportunity to invest at the moment of your choosing, where on the chart would you choose? And where are we on that chart right now?
When you notice that stock prices are declining, don't be upset. Instead become excited about what lies ahead.
Originally published in Rescue Your Money
An index is a portfolio of specific securities (common examples are the S&P, DJIA, NASDAQ), the performance of which is often used as a benchmark in judging the relative performance of certain asset classes. Indexes are unmanaged portfolios and investors cannot invest directly in an index. Past performance does not guarantee future results.