We’re not writing about cappuccinos, champagne, or bubble bath.
We’re talking stocks.
You may have noticed that the shortest bear market in history is over, and markets recently hit new record highs.
Will stocks keep going higher? Will they stay volatile?
Is another bear market around the corner?
Maybe. Maybe not.
As is pretty common in these situations, market strategists are split.
Some see a new bull market that reflects a recovering economy.1
Others see troubling signs of a bubble that could burst.2
What could push stocks higher?
- A market-ready COVID-19 vaccine or major treatment breakthrough that reignites optimism.
- More government stimulus that supports consumers and businesses.
- Good economic numbers that suggest we’re on the other side of the recession and the recovery continues.
What warning signs are flashing?
- A rally mostly powered by tech mega stocks that isn’t reflected in the broader market.
- Uncertainty around a November election that’s already contentious.
- A possible “Minsky moment” market collapse fueled by the Fed’s easy money policy and unsustainable stock prices.3
- Predictions of a second wave of infection that could provoke more shutdowns.
Bottom line, we can’t predict what comes next in the market and that’s okay. Why? Because it’s all short-term “noise.” History shows that all stock market declines are temporary interruptions in a perennial uptrend.
Since we no one can predict the future and no one can time the market, we’re focused on helping our clients stay fully invested which is the only sure way to capture the entirety of the market’s permanent advance. Those powerful portfolio returns over the long term are the reward for staying calm.
2020 has been the strangest year of our lives (probably yours, too), and it’s foolish to try to time markets right now — or any time for that matter. If you’re thinking about big moves or feeling anxious about what comes next, please reach out. We’ll talk through your ideas or concerns.
“The investor’s chief problem – and even his worst enemy – is likely to be himself.” — Benjamin Graham
If you’re looking at headlines or feeling the pressure of the downturn, it’s easy to think you’re not in control.
And it’s true—you have limited control over external circumstances (like the pandemic). But you have complete control over yourself and your behavior.
Times like these are when it’s most important to dig deep, root out bad habits, and come out on the other side mentally stronger than before.
We made a short video showing you exactly how you can overcome the hardwired biases that can cheat you, including the huge mental trap that even Warren Buffett has to fight.
(You’ll have to watch the video to find out what it is!)
Over the past several weeks, the stock market has experienced both the fastest crash and the most robust bounce ever seen. Right now, while things are relatively calm, I want to underscore the following points that are profoundly important to your investing success.
- When stock prices are going down, the enduring value of the underlying companies is going up. A market decline is therefore always to be experienced as a sale, and the very nature of sales is that they are temporary. The lower prices go, the more value is to be had at those prices. You instinctively know this about virtually everything else in your economic life. If you can’t apply that same correct instinct to the stocks of America’s and the world’s great companies, it’s not probable that you can ever become a successful investor.
- Staying fully invested during temporary market declines is the only sure way to capture the entirety of the market’s permanent advance. It is not possible consistently to sell out of falling markets, and later buy back into already advancing markets, thereby capturing the long-term returns of equities. Those returns are your reward for staying calm.
- You never try to make long-term investment strategy out of short- to intermediate-term disruptions. We have a plan for getting you to the goal you need to reach, in order to secure a successful retirement. To achieve that goal, you need to invest consistently. And to stay invested, not just when the sun is shining.
- Perhaps more today than ever, bonds, CDs and the like are not an alternative. At the moment, the cash dividend of the S&P 500 is close to three times the yield on the 10-year Treasury note. Even if dividends were to halve in the current crisis, and interest rates stayed where they are, stocks would still yield more than the 10-year Treasury. I’ve never seen that before, and when this crisis passes, I don’t ever expect to see it again. Bonds are simply not, in my judgment, a rational alternative to stocks for the long-term investor.
- How low the stock market ultimately goes in response to the economy’s cardiac arrest is both unknowable and — to the long-term, goal-focused, planning-driven investor — irrelevant. (Unless, of course, he/she is still in accumulation mode, in which case a renewed decline would be a genuine godsend.)
I hope sharing our enduring principles helps both steady you in the present and focuses you on your long-term success. As always, if you have any questions don’t hesitate to give me a call.
When the world goes as haywire as it’s done lately, you may have occasion to question your investment strategy — and even your overall financial planning. If so, you may wish you could get an objective second opinion you can trust, from a friend. I hope you’ll know me to be that friend.
Wishing great success,
|Chris Mullis, Ph.D.
Expectations are very important. If you know what to expect, you shouldn’t be surprised. And if you’re not surprised, you won’t panic.
Coaching clients on what to expect and how (not) to respond to extraneous events is our defining role as a real financial advisor.
We invest in stocks because of their superior returns. Those historically higher returns are a reward for tolerating volatility (i.e., the “volatility premium”). But what does stock volatility look like in the real world? What pattern of price variability should we expect?
Well, here it is in its most elegant of graphical forms (click image for a bigger view).
Here’s how to read this chart:
- The intra-year decline versus the annual return of the S&P 500 are plotted vertically with years running horizontally from 1980 through year-to-date 2019.
- The annual return (grey bars) show the calendar year price increase. For example, in 1980 stocks climbed 26% for the year.
- The intra-year decline (red dots) is the largest market drop from peak to trough during that year. For example, in 1980 we experienced a 17% drawdown.
- Putting these together, in 1980 the stock market dipped 17% before closing up 26% by the end of the year.
It’s not hard to see that short, intra-year declines are the norm.
In fact, the average intra-year drop is 13.9%. But despite these temporary declines, the annual returns are positive in 29 of 39 years (74% of the time). During the charted time period 1980 to 2018 the average annual return was 8.4% This pattern is persistent. If you look back to 1946, the average drawdown is a remarkably close 13.8%, and the price return was positive 51 of the 73 years (70% of the time).
History shows the declines are temporary, the advance is permanent.
Think about how the average person responds to these intra-year declines. The financial media is screaming about the crisis du jour which is consistently characterized as the end of the world (“I’ve lived through some terrible things in my life, some of which have actually happened.” — Mark Twain ). Data shows the average investor, without the support of a caring, empathetic coach/advisor, consistently sells at the worst of times – i.e., during one of these perfectly normal and temporary pullbacks.
Volatility does not equal a financial loss unless you sell.
In our humble opinion, possessing an informed expectation, one that allows you to ignore short-term gyrations to capture long-term gains, is a Great Expectation.
At a 100,000-ft level, we do two things in our financial advisory practice: Asset Management* and Financial Planning. Although these two functions are distinct, they are very much interrelated. Both are essential components for our client families’ long-term success, but it’s important to understand and appreciate the differences:
(* Asset Management also falls under the monikers of “investment management” or “portfolio management”)
Asset management is about asset allocation, expected returns, risk tolerance and time horizons.
Financial planning is about making wise choices about the use of debt, setting up college savings plans, tax efficiency, estate planning and ensuring your insurance needs are taken care of.
Asset management is about managing investments.
Financial planning is about managing investors.
Asset management is about portfolio construction and risk management.
Financial planning is about comprehensive planning and emotional management.
Asset management is about measuring portfolio performance by comparing results to predetermined index benchmarks.
Financial planning is about measuring your performance against your true benchmark — your goals.
Asset management is about allowing your money to work for you to help you reach your financial goals.
Financial planning is about helping people define their goals, dreams, desires and fears.
Asset management is about creating a process that guides your actions in a wide variety of market environments.
Financial planning is about implementing a plan and making corrections along the way as life or market and economic forces intervene.
Asset management is about creating a portfolio that can survive severe market disruptions.
Financial planning is about creating a financial plan that can survive severe life disruptions.
Asset management deals with financial capital.
Financial planning deals with human capital.
Asset management is about growing and/or preserving your wealth.
Financial planning is about understanding why money is important to you personally.
Asset management is about where to invest a lump sum.
Financial planning is about how and when to invest a lump sum.
Asset management is about asset allocation.
Financial planning is about asset location.
Asset management is about creating policies to guide your actions in the face of economic and market uncertainty.
Financial planning is about helping people make better decisions with their money in the face of uncertainty that is impossible to reduce.
Asset management helps you understand how much you need to earn on your investments to meet your future spending needs.
Financial planning helps you understand how much you need to save meet your future spending needs.
Asset management helps you figure out where to take your money from when you need to spend it.
Financial planning helps you figure out where to spend your money in a way that makes you happy.
Asset management helps you grow your savings to meet future consumption needs.
Financial planning helps you plan and budget for future consumption needs.
Asset management is about creating a long-term process to guide your actions in the markets.
Financial planning is about creating systems that allow you to spend less time worrying about your money.
Asset management is about reducing the anxiety that comes from the volatile nature of the markets.
Financial planning is about reducing the anxiety that comes from making important decisions with your money.
Asset management involves growing your wealth so some day you can become wealthy.
Financial planning involves figuring out what a wealthy life means to you.
To get the most benefit from asset management, you really need comprehensive, well thought-out financial planning.
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