The one thing that remains certain in the stock market is uncertainty. It's full of highs, lows, bear markets, bull markets, and everything in between. You never know exactly when any of these will happen, but you can be confident they will happen eventually.
This year has seen a stronger stock market than many people were anticipating. Although the Dow Jones is relatively flat, the S&P 500 and Nasdaq Composite indexes are up about 10% and 25%, respectively, as of this writing.
Given these recent performances, it's natural for investors to begin wondering if the market is prepping for its next bull market. While I can't say when it'll happen, I can say that when it does, there's one expensive mistake you should avoid.
Image source: Getty Images.
Don't let FOMO get the best of you
One of the biggest mistakes someone can make during a bull market is rushing to put money into high-flying stocks. During bear markets, it's easy to stay on the sidelines as stock prices are falling before your eyes.
During bull markets, when it seems like stocks have nowhere to go but up, showing restraint is far more difficult. It's tempting to believe there's no need to have cash sitting around if you can put it in the market and enjoy attractive returns.
The problem is that this fear of missing out (FOMO) often leads investors to make assumptions and take on more risk than they usually would. Rushing to put money in the stock market often means investors are skipping their due diligence, forgetting to think long term, or ignoring traditional investing advice. Those can be costly mistakes -- I know from personal experience.
As fast as stocks rise, they can fall even faster
I'm not denying the fact bull runs can deliver incredible short-term gains. However, as share prices and valuations rise to unsustainable levels, investors also face the prospect of steep losses if the stock market abruptly corrects or flips to a bear market.
Below are three examples of growth stocks that saw their value skyrocket in the early months of the pandemic. All three companies saw triple-digit gains from March 2020 to March 2021:
| Company | Stock Price Increase |
|---|---|
| DocuSign | 176% |
| Zoom Video Communications | 290% |
| Peloton Interactive | 364% |
Data source: YCharts.
Those are impressive one-year returns, but investing should be a long-term game. Only looking out several more years would investors then see how far each of these stocks have fallen from their peaks:
Data by YCharts.
By no means is this meant to write these companies off or speak on their long-term trajectory, but it illustrates the wild swings the stock market goes through in the near term and what can happen if you allow yourself to get swept up in the hype of a bull market.
Trying to time the market is a losing game
It can be easy to see the above scenarios and think you'll be able to sell at the right time to lock in your profits before shares drop. But this strategy, known as timing the market, is very difficult to do consistently, even though many investors (myself included) have been guilty of thinking they can do it successfully over the long term.
One way to avoid the temptation of timing the market is dollar-cost averaging. When you dollar-cost average, you invest a set amount at pre-determined intervals, regardless of market conditions at the time. It ideally helps you ignore short-term swings in a stock (or the market overall) because you'll be investing regardless of prices.
Investing can be an emotional process, but making decisions based on those emotions is problematic. Dollar-cost averaging takes that variable out of investing while also eliminating the risk that comes with timing the market. Yes, you'll buy in when prices are high, but you'll also buy in when they're low. The more important part is having faith in your investment choices and their returns over the long haul, saving you stress along the way.
