Should I continue to invest in an S&P 500 index fund?

Question

I am saving to buy a house in 5-8 years. This year I invested $40,000 in a prominent ETF which tracks with the S&P 500. So far, I've lost $3,250, that is the stocks are now worth $36,750. I save $1,000 to $2,000 per month. I don't pay commission for the ETF.

My plan was to invest all my savings every month in the ETF; with the understanding that over the course of 5-8 years, any short term loses should be offset by long term gains. However, after losing so much so far and looking at the charts just before the 2001 and 2008 crashes, I'm just wondering if anyone has any insight that may impact this strategy. Should I continue to invest in this fund?

EDIT: The range of 5-8 years is intended to give me the ability to time both the stock market and housing market. That is, if in 5 years the market has done relatively well, and houses aren't too hard to find, I'll buy a house. Whereas if the stock market is low and houses are hard to come by, I'll wait it out a few years.

Thanks for the answers. It's hard to pick one at this point. I will; I just want to make sure I understand the different angles and consider which one seems most applicable to my situation.

Answer 1

You have a good thing going. One of the luxuries of being invested in an index fund for the long term is that you don't have to sweat the inevitable short term dips in the market.

Instead, look at the opportunity that presents itself on market dips: now your monthly investment is getting in at a lower price.

"Buy low, sell high." "Don't lose money." These are common mantras for long term investment mentality.

5-8 years is plenty of time -- I'd call it "medium-term". As you get closer to your goals (~2-3 years out) you should start slowly moving money out of your index fund and start dollar cost averaging out into cash or short-term bonds (but that's another question).

Keep putting money in, wait, and sell high. If it's not high, wait another year or two to buy the house. A lot of people do the opposite for their entire lives: buying high, panic selling on the dips, then buying again when it goes up. That's bad!

I recommend a search on "dollar cost averaging", which is exactly what you are doing right now with your monthly investments.

Answer 2

5-8 years is not quite long term.

Until the naughts (the 2001-10 decade), advisors were known to say that the S&P was always positive given a 10 year holding period. Now, we're saying 15 years is always positive looking back. One can easily pull S&P return data which would let you run numbers showing the range of returns for the 5-8 yr period you have in mind. A bit of extra effort and you can include the dollar cost averaging factor. This wouldn't produce a guarantee, but a statistical range of expected returns over your time horizon. Then a decision like "with a 1/4 chance of losing 25% of my money, should I stay with this plan?" This is just an example.

The numbers for 1900-2014 look like this -

In any 5 year period, an average return of 69.2% (note 1.69 means a 69% gain). Of the 111 5 year periods, 14 were negative with the worst being a 46% loss. I maintain 5 years is not really long term, but the risk is relatively low of being in the red.

Answer 3

I would be very cautious about investing any more funds into the S&P500 at this stage. You are quite correct in your observation with the charts regarding the 2001 and 2008 crashes, and below is the chart of the S&P500 over the last 20 years with some indicators on it.

The green line on the price chart is the 100 week Moving Average (MA) and the pink line below the price chart is the Moving Average of the Rate of Change (ROC) Indicator.

In general the market is moving up if price is above the 100 week MA and the ROC is above 0%, and vise-versa the market is moving down if price is below the 100 week MA and the ROK is below 0%.

Both times in 2001 and in 2008 when prices broke below the 100 week MA and then the ROC crossed below the zero line, well we all know what happened next. In 2001 prices kept falling and the ROC didn't cross back above zero for about 2.5 years, in 2008 much the same happened and the ROC didn't cross back above zero for over 20 months.

Now as we are reaching the end of 2015 prices have once again broken below the 100 week MA and the ROC is just above the zero line quickly heading down towards it.

If you have a 5 to 8 year time frame, and prices do continue to fall much further after the ROC crosses below the zero line, your current funds and any new funds you invest in this ETF will potentially see heavy losses for the next one to two years and then take another year to two years or more to recover to current levels. This means that your funds will potentially have no gains at all in 5 or 6 years time.

A better option is to get out of the market once the ROC crosses below zero and then look to get back in once the recovery has started, when the ROC crosses back above the Zero line. You might be out of the market for a year or two, but once you get back in you can expect robust gains over the next 3 to 5 years.

If you do get out and things reverse quite quickly you can easily just get back in. In mid-2010 and mid-2011 the price broke below the 100 week MA but the ROC remained above Zero and prices continued moving up after short corrections. In mid-2012 the ROC got very close to the Zero line but did not cross below it, and again prices continued to go up after a small correction. You should plan for the worst and be ready if it occurs. If you don't plan you're just hoping and hoping is what will keep you awake at night whist things are going against you.

Answer 4

Your 5-8 year time frame is interesting because it is actually a two windows.

When people are savings for retirement, they tell us how many years or decades they have until they reach retirement age. But they also imply that they are planning on spending decades withdrawing the money.

But you wanting the money for a house in 5-8 years are needing the money more like somebody who is saving college money for a teenager. In fact your plan is similar in time frame as a 13 year old has for their college fund; start in 5 years but only have a 4 year spending window.

Take the California 529 program:

Beneficiary Age 13-14:

    25.20% US Equity
    12.00% International
    02.80% Real Estate
    60.00% Fixed income

Beneficiary Age 18+:

    09.46% US Equity
    04.50% International
    01.05% Real Estate
    35.00% Fixed income 
    50.00% Funding Agreement

The funding agreement provides a minimum guaranteed rate of return on the >amounts allocated to it by the Investment Portfolio. The minimum effective >annual interest rate will be neither less than 1% nor greater than 3% at >any time.

So you plan of investing 100% in the S&P with your window is way too risky. You should only invest a portion of your down payment in equities, and be prepared to only be in that mode for a few years. Any drop in the market now hurts you, but one just before you need the funds would be devastating.

Answer 5

Cycle analysis indicates that the current bear market, which began in May/June, should last until late 2016 / early 2017. So if you want to trade the short side, then it's a great time to be short for the next 15-18 months.

Answer 6

You shouldn't.

The Dow has gained 7% annually on average since October 1915(inflation-adjusted).

It has also lost 73% of its inflation-adjusted value from 1966 to 1982 meaning that it would have lost you 4.5% annually for 16 years.

Furthermore, past performance is not indicative of future results.

If stock markets keep performing like they have for the past 100 years, you can expect there will be a point within the next 60-or-so years your stocks will be higher in value than they were when you bought them.

With funds you are paying the people managing them which means you are guaranteed to have pyramiding losses that your gains will have to offset.

In your case, you are betting with no fundamental knowledge that S&P will be higher than now whenever you need the money which is not even supported by the above assumption.

Dollar averaging just means you will be placing many bets which will reduce your expected losses(and your expected gains) when compared to just buying $100K worth of S&P right now.

Whatever you invest in, and whatever your time-frame, don't gamble. If you can't say this company(ies) will be $X more valuable than now in X months with probability > Y, then you shouldn't be investing in it. Nobody ever made money by losing money.

There are also safer investments than the stock market, like treasury bonds, even if the returns are lousy.