Market Commentary: The Story Behind the Soundbites
by Jeffory L. Stukey, MBA, CFP®
I was recently interviewed by KSN for the ten o'clock news concerning the volatility in the stock market. (Click here to see the KSN story.) The evening news, by necessity, is in soundbites. Here is the story behind the soundbites.
The Market Correction
The S&P 500 Index1 was at an all-time high on January 26th. Less than two weeks later, it was down 10.2%, which put it in market correction2 territory. The real story was not the correction, but rather that the market was overheated with a 7.5% year-to-date gain and was due for a correction.
The price on the day of the correction was 2,581. The last time the market was at that level was a mere 2½ months ago. The point being that the downturn was not that significant in historical terms.
… corrections are an important part of a free-market enterprise system.
Even though two weeks ago the market was down for the week by 6.0%, it was up last Friday for the week by 4.6%. So, this greatly mitigated the damage done in the prior week.
At any rate, corrections are an important part of a free-market enterprise system. If we didn't have corrections from time-to-time when the market gets overheated, worse consequences would happen over the long haul.
The Booming Economy
… the market does not always respond to the economy in the way one might expect.
A booming economy is a good thing! However, if it grows too fast, inflation could kick in. And, if that happens, the Federal Reserve will probably increase interest rates. That, in turn, would likely cause the market to go down. The economy and the market are linked to one another. However,the market does not always respond to the economy in the way one might expect. For instance, as noted above, when the economy grows too fast, it can result in a market downturn.
Are We Due for Another Bear Market?
If we look at historical averages, the short answer is "yes, we are due for a bear market."3 However, as usual, the longer answer is more nuanced.
… the bottom line is that no one knows for sure when the next market correction or bear market will occur or how long it will last.
There have been ten bull markets4 since 1950. We are currently in the second longest bull market at 8.9 years (and counting). The longest one, which ended in March 2000, lasted 9.5 years. The average bull market is five years long. So, from that perspective, we are overdue for a bear market.
However, the bottom line is that no one knows for sure when the next market correction or bear market will occur or how long it will last. So, we are left with focusing on the things we have control over, instead of worrying about things we cannot control such as the market or interest rates.
So, what should you do regarding your investments?
Time for a story … "A Tale of Three Investors" (see chart below). Each hypothetical investor had $100,000 in the domestic stock market5 in the same investment on 12/31/2007. On 3/9/2009, the "great recession" began with a drop in the market and each of their portfolios plummeted to $47,465.
Investor #1 had had enough and decided to get out of the market and stay out. He invested his proceeds in certificates of deposit and earned 1% annually. The value of his CDs on 12/31/2017 was $51,911.
Investor #2 also had had enough and decided to get out of the market and wait and see. He invested his proceeds in certificates of deposit and earned 1%. A year later, he noticed the market had been going up and decided to get back into the stock market. His value on 12/31/2017 was $131,828.
Even though he was concerned, investor #3 took the advice of his CFP® professional and stayed in the market. His value on 12/31/2017 was $231,173.
Check to see how your investments are doing a couple times a year and make adjustments once a year.
So, what happened here? Investor #1 made the BIG mistake. He sold low! And, he ended up with 78% less than investor #3. Investor #2, on the other hand, at least eventually got back into the market. However, he sold low and bought high! Even though he fared significantly better than investor #1, he ended up with 43% less than investor #3. And, keep in mind that he was only out of the market for one year.
So, what's the moral to the story? Find a Certified Financial Planner® professional you trust and work with him or her to determine your risk tolerance.6 Invest in a well-diversified portfolio of bond mutual funds and stock mutual funds based on your risk tolerance. Check to see how your investments are doing a couple times a year and make adjustments once a year. Stay in the market. The rest is just noise!
- All data regarding the S&P 500 Index (^GSPC) is from Yahoo Finance.
- A correction is a decline or downward movement of at least 10% of the stock market. Corrections are price declines that stop an upward trend.
- A bear market is commonly defined as a drop in the domestic stock market of at least 20% for at least two months.
- A bull market is a period of several months or years during which stock prices consistently rise.
- All data regarding the Vanguard Total Stock Market ETF (VTI) is from Yahoo Finance.
- Risk tolerance is the degree of downward variability in investment returns that an investor is willing to withstand; if an investor takes on too much risk, he or she might panic and sell at the wrong time.
Diversification does not ensure a profit or protect against a loss in a declining market. Past performance is no guarantee of future returns. The performance of an index is not an exact representation of any particular investment, as you cannot invest directly in an index. The returns for mutual funds and exchange traded funds will normally be less than the corresponding index, since indexes do not account for mutual fund expense ratios or wealth management fees. There is no guarantee that any particular strategy or asset allocation or mix of investments will meet your investment objectives or provide you with a given level of income. All investments involve risks, and fluctuations in the financial markets and other factors may cause declines in the value of your portfolio. Information contained herein is based on sources and data believed reliable but is not guaranteed.