Stock market crash: Why you shouldn’t sell

The stock markets can sometimes be quite volatile. For example, when the coronavirus pandemic began in spring 2020, there were days when losses reached as much as ten percent. Staying calm during such turbulent times can be challenging, but it’s important. Here, we’ll explain why remaining level-headed is worthwhile.

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Looking back, stock market crashes no longer look so dramatic

The following charts illustrate the performance of the S&P 500, which includes the 500 largest companies listed on the New York Stock Exchange, the world’s most important stock exchange. The index was launched at the end of 1957 and its performance has been calculated back to 1789. In this analysis, we will focus on the last 100 years. Throughout this century, there have been several crises that have affected stock prices.

What does the graphic illustrate? It shows that stock market crashes, such as the one during the coronavirus crisis, often appear less significant when viewed in hindsight. If we are currently experiencing another crisis, this chart should provide you with some encouragement. You can reasonably expect that, like previous crises, this one will also seem smaller in the future than it does right now.

The Great Depression began at the end of 1929 and dominated the 1930s. Unlike later crises, this one still appears “big” even after 100 years. The US Federal Reserve should have expanded the money supply to combat the crisis, but it did not do so. It implemented a restrictive monetary policy, tightening the money supply by approximately 30%. This exacerbated the deflationary spiral. In hindsight, the Fed’s actions are widely seen as a significant error that worsened and extended the crisis.

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Dividends help to offset price losses more quickly

Have we convinced you? If not, we have another reason why you shouldn’t lose your nerve during a stock market crash. In the first chart, we displayed the performance of the S&P 500. However, what we haven’t mentioned yet is that the S&P 500 is a pure price index. This means it does not include distributions such as dividends. Dividends play a crucial role in helping to offset price losses more rapidly.

Two crises in a row: the dot-com bubble and the financial crisis

To illustrate this, let’s examine the developments over the past 35 years. The dot-com bubble formed at the end of the 1990s and burst in the early 2000s. The S&P 500 reached its highest daily closing value on March 24, 2000, at USD 1,527.46. It took about seven years for the index to reach this level again, which occurred on May 30, 2007, when it hit USD 1,530.23. Following that, it took an additional six years to recover from the financial crisis. However, when accounting for dividends (indicated by the red line), it took significantly less time to overcome this decline.

What we are trying to say is: stay invested. Although share prices have fallen, companies are still making a profit and will continue to pay out some of it. If you sell during the stock market crash, you will no longer be able to benefit from the dividends and will be left with the loss. The savings account will not help you to recoup these losses. So if you have time, you should stay invested. The chances are good that you will be back in the profit zone in a few years at the latest. The dividends will help you do this.

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Why getting out during a stock market crash is not a good idea

Another reason why we do not recommend exiting during price losses is the possibility of price recoveries. If you get out in the middle of a crisis, you will probably miss the best days on the stock market. This is because there are often strong countermovements, as the following table shows.

The best trading days of the last 40 years

The financial crisis reached its peak with the bankruptcy of the major US bank Lehman Brothers on 15 September 2008, followed shortly afterward by the first countermovement on the stock markets with two days of returns of more than ten percent.

The coronavirus crisis hit rock bottom on the US stock market on 20 March 2020. A few days earlier, there was a strong countermovement, which was again overshadowed by price losses. However, two further peak days followed shortly afterward and the index recovered rapidly.

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Consistency pays off

Nobody can predict if and when the right time to buy or sell investments is. This is only ever clear in hindsight. Hence our recommendation: Invest regularly instead of speculating. Consistency pays off in the long term, especially in times of crisis.

An ETF savings plan is the best way to build up assets. With a savings plan, you pay money into the investment solution regularly, for example with a standing order.

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