Psychology of Investing through Market Crashes

“The biggest investing errors come NOT from factors that are informational or analytical. But from those that are psychological,”

Howard Marks.

“Your goal as an investor should simply be to purchase, at a rational price, a part interest in an easily understandable business whose earnings are virtually certain to be materially higher in five, ten and twenty years from now.”

Warren Buffett

It is easy to understand the idea of buying an interest (shares) in a business at a sensible price (when the price of the shares is low relative to the value of the cash flows the company produces). It is more challenging to manage the emotions of greed and fear that cause market booms and crashes. Investors who understand market psychology use market crashes as an opportunity.

Investing during a Crash

The Dot-com crash of 2000 is an example. This crash occurred as the Dot-com bubble burst when share prices of speculative internet companies declined. Many of these new internet companies were listed on the NASDAQ causing the tech-heavy index to drop 74% between February 2000 and September of 2002. The S&P500 fell 46% between late 2000 and late 2002.

McDonald’s was also affected by this market crash, even though its business of selling hamburgers had little to do with the technology. The share price of McDonald’s declined by over 45% between 2000 and 2002.

However, a review of the McDonald’s business fundamentals during this period would have shown no deterioration in the business operations. Moreover, the dividends increased over the same period.

Any investor with an understanding of McDonald’s business would not have sold as the share price declined but would have seized the opportunity to buy more McDonald’s shares at bargain prices and simultaneously capitalise on increasing dividends.

“The beauty of stocks is that they do sell at silly prices from time to time. That’s how Charlie and I have gotten rich”

Warren Buffett.

Emotions can drive the market and create bubbles and crashes. A crash can cause the share price of the company to decline, even though the competitive advantages of the business remain intact, thus creating an opportunity to act rationally while others act emotionally.

We have spent many years growing wealth inspired by the wisdom of successful investors. We do this by owning shares in companies, that pay regular dividends, that own great brands that are known and used around the world daily. We intend to hold, and ideally never sell, the assets we buy. We also believe in sharing knowledge with our investors so that they may grow as their wealth does. To learn more about our investment philosophy, read some of our other blogs, sign up for our newsletter, or contact our fund management team to invest.