A Lesson in Market Crashes

Be fearful when others are greedy and greedy when others are fearful. So easy to say but much harder to pull off in real-time.

The reason?

People can always become greedier or more fearful. Case in point — the Russian stock market. In early March, MarketWatch columnist Brett Arends laid out the case for investing in Russian stocks, specifically Russian small caps:

Heaven help me, I’m going to invest in Russia.

I’m not going to overthink it. I’m not going to let people talk me out of it. I am going to throw some of my money into the Russian stock market—and then forget about it for a few years.

The riskier the stocks, the better. The investment of choice looks like the MarketVectors Small Cap Russia exchange-traded fund (RSXJ), which holds stakes in about 30 small Russian companies. The fees are 0.71%.

Arends went on to show that Russian stocks were down nearly 60% from their all-time highs in 2008 at that time, while the small caps were down nearly 80% from their peak in 2007. The problem with huge losses is that it requires even larger losses to move the needle even further.

In his piece Arends showed that Russian small caps were down 78% as of the beginning of March from the all-time highs. Since then, they’ve dropped another 40%. That stings. But in the grand scheme of things that only drops the cumulative total loss to 87% in total. As the numbers approach zero (hopefully the stock market of the 8th largest economy in the world doesn’t make it that far) you need a much bigger drop to add to the total loss. So a 40% loss only added another 10% or so to the bottom line since 2007.

To go from an 80% loss to a 90% loss requires another 50% in losses.

Unfortunately, when trying to catch a falling knife, timing can be everything. Which is why it probably makes sense for most people to either stay away from these types of speculative investments or dollar cost average over time with an established time horizon measuring many, many years.

I’m not trying to single out Arends for a wrong move here. He had legitimate reasons for taking the plunge into Russian stocks. If you read his reasons for investing in Russia, nothing has really changed all the much, except for the fact that the stocks have fallen that much further.

His thesis could still be proven out as long as he can hold his nose for a few years (or decades). The lesson here is that falling markets can always fall further than you imagine just like rising markets (see: stocks, U.S.) can stay strong for longer than most realize.

Why I’m going to invest in the Russian stock market (QZ)

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  1. Tuesday Morning Links | timiacono.com commented on Dec 16

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  2. Brian commented on Dec 16

    Actually, that’s a great idea on that russian fund in small caps. I picked up a purely speculative $5k today out of the bloodbath and will salt that away for 5-10 years and see what happens.

  3. One of the Worst Arguments in Finance - A Wealth of Common SenseA Wealth of Common Sense commented on Dec 21

    […] I think that’s the true sign of a value investor – someone that’s willing to continue buying and rebalancing into an investment or asset class that they deem to be worthy enough to gain inclusion in their portfolio, even if it continues to fall after they make the initial purchase. The true bargain basement prices are only going to be known with the benefit of hindsight. Cheap investments can always get cheaper. […]