Why Should You Hope Your Stock Prices Go Down?
Clearer Thinking about Investing
Conventional wisdom can often be wrong, especially when it comes to investing. For example, when we invest in stocks, we hope our stock prices increase and we fear they could decline. The higher they go the better we feel and vice versa.
Yet, many investors earn more than they spend. They are net savers and therefore net buyers, not net sellers. Contrary to common belief, they would benefit from their stocks' prices falling.
Imagine you have invested in apartments and the rent you are collecting is giving you an attractive return. Now you are looking to invest in more apartments. Would you want apartment prices to go up or down? If they went down, would you really be worried about the declining price of the apartments you already own?
The same goes for stocks. When your stocks decline you can buy more of what you already own and like at even lower prices if you still have the capital to invest. But even if you don't, you still benefit from falling prices:
Stocks of great businesses often decline when there is widespread pessimism or fear or when the economy is slowing. During such times weaker businesses step on the brakes and stop investing in factories, talent, technology, intellectual capital, distribution capabilities, product development, advertising, etc.. Yet managers of great businesses sense exceptional opportunity to widen the gap between themselves and the competition and do the opposite. Therefore, they benefit from tough times and become even stronger than before.
Lower stock prices also mean they may be able to acquire competitors at lower prices.
Finally, lower stock prices mean they can potentially repurchase their own stocks at undervalued prices and thereby decrease the number of shares outstanding effectively increasing shareholder value for existing shareholders.
Now you might think: "I will wait for stock prices to drop before I invest." The main problem is, you can't know when and how much stock prices will drop. Of course, you should not invest in overvalued stocks, but if the stocks you are considering are attractively valued, it's irrational and unwise to forgo attractive opportunities that are knowable for potentially more attractive opportunities that are not knowable. In trying to time the market you often miss out on attractive returns and on the enormous power of compounding. Albert Einstein once said: "Compound interest is the eighth wonder of the world. He who understands it, earns it ... he who doesn't ... pays it."
Still, you might think: "It‘s so much better if my stocks go up and the rest of the stocks go down. Then I will sell mine and buy the others." The problem with that is, this is harder to accomplish than one might think because widespread pessimism or fear usually doesn’t spare the stocks of great businesses. If it turns out that way, it usually means we are not experiencing widespread pessimism but rather that those declining stocks belong to inferior businesses. You are usually better off holding on to the superior businesses you already own.
Of course, eventually, investors will also want to sell their stocks when their earning power declines and they become net spenders. Fortunately, history proves that stock prices only deviate significantly from intrinsic values in the short-term. Mid- and long-term they reflect underlying intrinsic values and reward patient investors handsomely.
So the next time your stocks fall, maybe you will ask yourself whether you are invested in great businesses. If you are, maybe you won‘t be sad or fearful, but rather cheerful for the opportunity the market is giving you.
Bahram Assadollahzadeh, CFA
Comments