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Losing money on a stock hurts. Everyone wants to avoid bad investments, but what if these \"losses\" are not what you think?
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Stocks go up and stocks go down. It's fun to watch your investments increase in value, but it feels awful when they decrease.
Don't fret! If you have good investments, you can weather the daily ups and downs of the market without getting caught up in the frantic daily reporting of the stock market horse race.
If the Dow, S&P 500, or NASDAQ index drops a percent or two and you feel uneasy, you're in good company. On paper, you may have lost hundreds or thousands of dollars. (Put yourselves in the shoes of a Mark Zuckerberg losing $7.2 billion dollars in a single day. Daily, monthly, and yearly fluctuations are mere bumps on a long road. If you take a longer view—if you think of losses differently—you will invest with more confidence.
When Do You Really Lose Money on a Stock?
It stings to look online and see that stock you were really excited to buy drop a couple of dollars per share, but remember this: you only make a profit or suffer a loss when you sell.
You have not lost anything until then. The value of a stock is as much its future worth—the share in its earnings in the present and future—as its current price. Regardless of the current price of a stock, you still own a part of that business and share its value. Unless and until the nature of the business changes, you've retained that value.
What Does it Mean When a Stock "Goes Down"?
Every day in the stock market is a new day. Unless no one buys or sells anything, prices will move. They may end up at the same place, but there's always something happening.
Does that something mean anything?
When a big stock or a specific index drops, people rush to ask "what happened in the market" This is a normal question. Usually there's no single explanation which accounts for all of the actions of all of actors in the market. Even as simple an explanation as "There's a rumor the Fed will raise interest rates" can't account for every sell and every buy.
Even if you could explain what happened after the fact, what could you do with that information? Perhaps a rise in interest rates changes the business strategy behind the stocks you own—but if it makes those businesses no longer worth owning, were they ever worth owning in the first place? (This may be a blessing in disguise for great companies, by encouraging poor companies to leave the market altogether.)
Even if you've fully invested in index funds, you might be better off not doing anything. For example, when the Dow drops a hundred points, that could mean that only one stock, such as Boeing lost a few dollars. Everything else could have gone up. (The Dow's price-weighted model has problems like this.)
In fact, throughout late 2019 and early 2020, Boeing's response to the 737 crisis caused a great amount of volatility in its stock price, and that turbulence caused a great amount of volatility in the price of the Dow, making broad market volatility look more severe than it might otherwise have been.
It's more important to see trends beyond the daily or weekly or quarterly fluctuations.
If you've invested in good businesses which will continue to be good, each share is an investment in a bright future. Daily ups and downs are just steps in a longer journey. To try to draw conclusions based on these fluctuations is to attempt to divine meaning from a thousand random points.
If you're a value investor looking for bargains, dips and drops in stock prices are expected—even, occasionally, valuable. Warren Buffett is on record as advising that there are bargains to be found when other people are fearful; be bold when the rest of the market runs scared and be cautious when the rest of the market is confident.
The point of value investing is to find overlooked opportunities. That means bargains. Find stocks worth more than their current prices and plan for great returns over time. No one can control the market's fluctuations, but you can do your research and find strong companies with good histories.
Price Drops are Opportunities
Sometimes a stock's price drop is an opportunity. If the stock were a bargain at $10 per share, how much more so at $8! You don't have to take advantage of this opportunity; you may want to diversify into other stocks or you may not have the budget to buy right now, but it's still an opportunity.
This can happen for you without direct involvement, if you practice dollar-cost averaging or dividend reinvesting. Whether this is deliberate purchasing on a timescale, or an automatic investment through a 401(k) or SEP, a minor adjustment in a stock price gets you more for your money and multiplies your eventual gains. Through the gradual magic of compound interest, an extra percent return here and there can add up to thousands of dollars.
Losses Can Save Money
Sometimes a loss can be a benefit to you.
If you've realized a lot of profit—actually sold at a profit—in this tax year, you can get out of a losing investment and reduce your taxable liability.
If you sell at a loss and realize that loss, your capital losses may offset the same dollar amount as your capital gains. (This is why many investors sell toward the end of December.)
There are rules around this, such as not buying and selling the same security within 30 days to avoid something the SEC calls wash sales. Consult your tax professional for more details.
Even if you can't currently take advantage of tax benefits, sometimes selling an underperforming stock at a loss can free up capital to invest in a much better opportunity. Why wait for something to turn around, when you've found a better bargain right now?
Losses on paper aren't always losses in fact. It's not easy to see the great company you bought at a good price turn into a bigger opportunity at an even better price, but you don't have to squeeze every possible penny out of every possible purchase to be a good investor and meet your goals.
If the company is still strong, the intrinsic value of the stock remains as it is. Seek strong companies with great businesses you understand. Sleep soundly even despite the daily random machinations of numbers. Seek value.
If the company is still strong, the intrinsic value of the stock remains as it is. Seek strong companies with great businesses you understand. Sleep soundly even despite the daily random machinations of numbers. Seek value.
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