Points of Interest – Spring 2015 It wasn’t my fault

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This article, by Justin Baiocchi, was originally published in The Northern Daily Leader on 7 November 2015.

In the minds of many people the stock market is a risky place and one best to be avoided. They point to the occasional market crash as confirmation of their convictions, opining that no-one should be comfortable with that level of volatility. That view partly misses the point, that volatility can be both good and bad. The movement of share prices is entirely normal, it’s just that upside volatility (share price gains) is far more desirable than downside volatility (share price falls). A stock market with no volatility goes neither up nor down and that hardly makes for an attractive investment.

The truth is that most of the potential investment opportunities open to you exhibit some form of price volatility. Take property for example, which many people favour over investing in shares (the saying ‘safe as houses’ stems from this belief). Imagine if every person who walked into your house made you an offer to buy it, based on what they felt it was worth (this is a fun game every homeowner can play). So when the postman drops off your mail he might yell out ‘$350,000!’ at you from the end of the driveway. Or if the guy who reads the electricity meter is the next visitor, he might yell out ‘$330,000!’ as his best offer. At that point do you turn to your spouse or partner and say ‘Oh my goodness, we just lost $20,000!’? Of course not. Just because the electricity meter reader thinks your house is worth only $330,000, doesn’t actually make it so. That’s just his offer for the property at that point in time. Can you see the similarity with the stock market? If a share you owned yesterday was priced at $15 and today it’s selling for $10, have you lost $5? No more than the homeowner lost $20,000 because the electricity meter reader is tighter than a photo finish at the Melbourne Cup.

All the stock market shows you is the current price at which someone will buy your shares from you. That doesn’t mean that is what the shares are worth. Price and value are entirely different beasts, particularly when it comes to the stock market. Price is what you pay for the shares; value is what they’re worth. So when the prices of your shares fall, as they occasionally do, don’t panic and resign yourself to a life of bread and potatoes. In the long run value always outweighs price, even if the only buyer is that tight-fisted electricity meter reader.