Don’t be hasty: a paper loss is short-term

Martin de Kock

The current downward movement in markets has led to investors’ emotions ranging from concern to outright anxiety. The markets have declined: S&P 500 year-to-date – 0.1% (down 9.3% on its high)

MSCI year-to-date – 3.3% (down 6.9% in October)

JSE Alsi year-to-date – 12% (down 8.5% in October)

You’ve likely been asking yourself, should I not be moving my funds from equities to cash; will I be able to retire and/or should I freeze or stop my contributions to my retirement or savings?

Market drop equals sale

Declining markets often result in investors reacting to the shortterm negativity by selling equities which, in turn, causes markets to spiral downwards even further.

On the positive side of declining markets, the price of shares is really low.

We love shopping when goods are on sale but, strangely, our instinct responds the opposite way with our investments.

When markets fall, we want to sell because we fear the market may drop further.

Paper losses versus real losses

Remember, the decline in your investment is a paper loss. The value has declined.

If the market recovers and the value of your investment increases to previous values, you haven’t lost anything.

If you sell your equities to obtain cash, you convert the paper loss into a real loss and then don’t take part in the recovery.

This implies you’ve made a permanent loss on capital.

Distributions

If you’re invested in unit trust funds, they distribute dividends and interest on a quarterly or bi-annual basis.

These are used to buy additional units and when the markets are down this means your distributions are buying more units.

Interest and tax

Investors who switch out of equities to cash (money markets, fixed deposits etc) often forget the effect of tax on the interest returns.

If you’re paying tax at 40% and earning interest at 7%, your after-tax return is 4.2% (assuming that you’ve already used the annual R23 800 tax-free portion).

This after-tax return is close to or below inflation, so you may be losing the buying power of your capital (after-tax growth below inflation).

Seasoned investment professionals can’t get market timing right on a consistent basis. Therefore, it makes sense to take the safe route and stay invested through the troughs and peaks.

Martin de Kock is director at Ascor Independent Wealth Managers