What the Global Financial Crisis (should have) Taught Us

The Global Financial Crisis (GFC), which I’m loosely defining as taking place between 2007-2009, was a painful time to be an investor – but many lessons can be taken from it. From the insidious impacts of excessive risk-taking and lack of regulation, to the challenges of calling market tops and bottoms, to the resilience of having a long-term outlook when weathering downturns, the financial crisis provided many powerful reminders about the realities of market dynamics.

One harsh lesson we all should know by now but was reinforced during the financial crisis is just how futile attempts at precise market timing can be. As the first rumblings of the subprime mortgage crisis emerged in 2007, a multitude of analysts and money managers made predictions about whether the issues would remain contained or spiral into a broader financial contagion. Investors frantically tried to outguess the market's moves. This, however, is the futility of making market predictions, particularly in the short term – no one knew what was coming and no one ever does.

By October 2007, the S&P 500 hit what was then an all-time high above 1,500 (it’s around 5,200 as of the date of this article). Then, in the tumultuous months that followed all through 2008 and the beginning of 2009, every uptick and (mostly) downturn saw a flurry of activity from skittish investors trying to time the market bottom to get back in. Of course, the worst didn't occur until March 2009, by which point the market had lost over 50% of its value from the October 2007 highs.

The investors who fared best (knowing what we know about time in the markets vs. timing the markets) were arguably those who stoically stayed the course through the volatility rather than reacting rashly.

While the financial crisis made for exceptionally tough times for our clients to stomach, it also vividly illustrated the value of having perseverance and along time horizon when markets undergo severe volatility. Make no mistake – for clients to hold steady and listen to our advice while some portfolios dropped over 50% took immense fortitude, especially for those in or nearing retirement with less opportunity to recover losses. However, those who stayed disciplined and even more so those who kept contributing during the downturn were rewarded.

Consider a client who began investing monthly in January 2007, right before the market peaked. Had they stopped investing out of fear after the crash began in October 2007, their initial investment may have declined by around 55%. However, if they simply stayed the course and kept contributing monthly, they would have bought shares at lower and lower prices that eventually would result in positive returns just a few years later.

A key takeaway is that while the day-to-day or month-to-month market gyrations during crises feel excruciating, investors with the stomach to withstand the volatility and remain disciplined often come out ahead over reasonable time horizons. Panic-selling locks in losses, while patience gets rewarded when inevitable rebounds occur.

Another lesson is understanding typical recovery periods following sharp selloffs. The GFC experienced one of the most epic market drawdowns and recoveries in history, but the overall timeline actually aligns with historical precedent. Historically, it has taken the S&P 500 around 1-4 years to recover losses after a bear market decline of 20-40%. The duration to breakeven naturally extends for more severe crashes like in 2007-2009 which saw a near 60% plummet (1).

For the financial crisis, it took about 4 years after the March 2009 bottom for the S&P 500 to eclipse its prior October 2007 peak. However, the recovery went into overdrive after that point, with the index gaining nearly 200% over the ensuing 5 years as the raging bull market took hold. This should remind investors to avoid capitulating and abandoning a sound investing strategy amid the throes of a downturn (2).

This is relevant today, while we are at market all time highs, as we were in October in 2007. Some are scared to continue adding or to remain invested at these levels. But those that have been scared may have missed out on tremendous gains over the last 15 months and we don’t know the future. Knowing that historically though, even if you invested at market highs and saw subsequent sharp declines, time in the market still applies. Of course, this does require that you have the stomach for it, and that you have short term needs covered other ways.

While every economic cycle and market environment is unique, looking at precedents like the financial crisis provides objective data points to plan around rather than reacting rashly to damaging emotionally driven assumptions that "this time is different" or "it's going to be down forever." Having the perspective of prior crises and the conviction to apply those lessons toward your portfolio and mindset can put you in a better position to compound wealth through future turbulence.