A couple of years ago, I attended a presentation by RBC portfolio manager Stu Kedwell and he shared an analogy that I’ll never forget. The analogy illustrates how stock markets and the real estate market are quite similar, with one key difference. It explains why investing in stocks can make some investors so much more nervous than the idea of owning a home.
Let’s pretend that you own a house, and the market value of that house is available for you to see on an app on your phone any time you want. Let’s also pretend that value is updated constantly throughout the day, as economic and market conditions and investor sentiment change, minute by minute, second by second.
Now imagine that your local weather forecast warns of a wind storm expected to hit your community in the coming days. As soon as the forecast is published, and because you have large trees near your home, the market value of your house would instantly decrease by the cost of replacing your roof – as there is now a risk of a tree falling on your house. Once the winds start to pick up, the value of your home would fall even more, as the markets are assessing a greater risk of damage to your property. Then, once the storm has passed, and if your property did not sustain any damage, the value of your home would return to its level before the storm was forecast.
The stock markets experience exactly this type of fluctuation on a daily, even second to second basis, as various conflicts and crises around the world are anticipated and resolved. This past autumn, North American stock markets decreased by a whopping nineteen percent because of fears about global trade. Since bottoming out in December, the markets have recovered from those losses, partly because it appears that the outlook for trade may be improving.
Most homeowners accept and understand that real estate prices tend to increase over time, so they perceive real estate as a “safe” investment. Despite the similarities to the real estate market, many people perceive investing in stocks as more “risky” since technology allows us to see stock prices fluctuating frequently throughout the day. They get tricked into forgetting about the long term trend, while in the midst of a temporary downturn, or the wind storm of the day. But investors don’t have to face this environment on their own. If we follow the analogy even further, a good Wealth Advisor does the job of a realtor, helping you to understand the current, historic and future expected values of your home, a meteorologist, helping you to assess the risks of storms on the horizon and your insurance agent, helping you to protect your portfolio from extreme weather. I hope you have found this analogy to be helpful. Stay tuned to this blog in the future, as I will be exploring the effects of market fluctuations on our mental health and stress.