In the past week, stock markets have whipsawed between rallying and selling off with at least two days of 3%+ gains in the NASDAQ being followed up with selloffs of 4-5% the next day. The recent behavior of stock prices has felt like a night on the dance floor at the Broken Spoke (but not in a fun way) with the market performing a Texas Two-Step dance of “One Step Forward and Two Steps Back”.
Exhibit 1. Do Downturns Lead to Down Years?
Image from Dimensional Fund Advisors. January 2002–December 2021, in US dollars. Data is calculated off rounded daily returns. US Market is represented by the Russell 3000 Index. Largest Intra-Year Decline refers to the largest market decrease from peak to trough during the year. Frank Russell Company is the source and owner of the trademarks, service marks, and copyrights related to the Russell Indexes.
Investing risks include loss of principal and fluctuating value. There is no guarantee an investment strategy will be successful.
Market drawdowns are always a test of investors’ resolve. No matter how experienced you may be as an investor, it never gets easier seeing our portfolios drop in value. It hurts every time. Part of the hurt is our inclination to believe that this selloff is going to be different than previous ones. That being said, sell-offs are a fact of (investor) life. Looking back over the last twenty years, there was a market pullback every single year. On average, the market experienced a 15.4% decline each time. In the 12 years when the S&P experienced a double-digit decline, 9 of those 12 times—or 75% of the time—the market ended the year with a positive return.
That's not to say we will end this year on the positive side of the ledger but the volatility is the price we pay for the higher returns that stocks tend to provide versus bonds or cash. However, it is also the reason we shouldn’t invest in stocks for goals that are relatively short term. One thing we know for a fact is that stocks are lower than they were at the beginning of the year. If you have cash on hand, now is a better time to invest in stocks than a few months ago.
Be Fearful When Others Are Greedy and Greedy When Others Are Fearful.
-Warren Buffett
Of course, the best way I know of to deal with the day to day uncertainty of the markets is to create a plan for achieving your financial goals and to test that plan assuming the market will continue to behave the way it always has. Having the knowledge that a plan can likely withstand the stresses of market behavior can go a long way towards more restful nights during these occasional but regular storms.
If you would like to review your plan, get in touch.