Ritholtz: Three Things to Remember in this Rally

Barry Ritholtz of The Big Picture blog writes that investors need to remember three things as they consider whether the current stock surge is a bear market rally, or the start of something bigger:

  • Follow the Playbook: Ritholtz writes that “the smart investor’s playbook is very different in bear markets than bull markets”. In bulls, you buy the dips, and “lower prices are an opportunity to buy into equities at cheaper valuations”. Buy & hold is the simplest and most cost-effective strategy in these times, he says. In bear markets, he adds, you sell on the rallies. “Buy & hold is a losing strategy — trading what the market presents to you is the best risk management strategy,” he says.
  • Beware the ‘Conspiracy of Optimists’: Overly positive views of the world occur leading up to a bull market peak, and warning signs get ignored. Ritholtz says recent economic reports were spun to appear to be bullish signs, when the data really was terrible. “Understand the difference between an economy that is improving versus one that ‘getting worse more slowly,'” he writes. “We are experiencing the latter.”
  • Buying the Very Bottom Isn’t Your Goal: “The problem with this approach is that we don’t know for sure when it’s the bottom or top until after the fact,” Ritholtz writes, adding that, sometimes, even buying the bottom doesn’t ensure you of fast, big gains.

Ritholtz says to “consider as your goal maximizing your returns on a risk adjusted basis. This means being more conservative with your investments when risk levels are higher, and more aggressive when they are lower.” Dollar-cost averaging can be a good way to do this, he says. “It is efficient and cost effective. If you want to be a bit aggressive, you can increase your contributions once the markets fall 30% or (like now) 50%. The time to throttle back a bit? After a 4 -7 year bull market run.”

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