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The Current Market Decline in Context Thumbnail

The Current Market Decline in Context

Investment

Right when we began to think markets only move upwards, the pendulum reverses. Unless your personal goals have changed, stay the course according to your personal plan. It never hurts to repeat this steadfast advice during periodic market downturns. We understand that thinking about scary markets isn’t the same as experiencing them. Fear is a completely normal response when something like this happens. Acting on those emotions, though, can end up doing us more harm than good.

History has shown that volatility spikes and market downturns can happen unexpectedly. Yesterday, the DJIA dropped 1,175.21 points (-4.6%) while newsworthy was hardly record setting or catastrophic. Remember black Monday, October 19, 1987 when the DJIA fell 508 points (22.61%). Do you also remember that the economy was barely affected and growth actually increased the next year, with the DJIA regaining its pre-crash closing high in early 1989? The following chart shows the markets response to a balanced 60% stock and 40% bond portfolio allocation:

It’s possible that the markets will drop further—perhaps even, as we saw during the Great Recession, much further.  Or, as is more often the case, they may rebound after giving us a correction that happens, on average, about once a year: a 10+% percent drop—the definition of a market correction.

More typically, corrections last anywhere from 20 trading days (the 1997 correction, down 10.8%) to 104 days (the 2002-2003 correction, down 14.7%).  Corrections are unnerving, but they’re a healthy part of the economy. The chart below reflects the average US Large Cap market recovery after an initial downturn:

 

So, what’s going on? Why did U.S. stock prices suddenly drop after such a long, lazy lull, with no obvious calamity to have set off the alarms?

It started last week with a health care venture announcement and a strong jobs report and a steepening yield curve. The rising bond yields combined with a strong job report lead to concern this news might boost inflation fears. ‘Might’ is the operative word. With inflation averaging under 2% the last decade a slight increase in inflation is healthy for the economy and is ultimately what the Fed has been trying to accomplish. However, it could put Chairmen Powell’s (rough first day) future expected rate increase(s) in jeopardy.

While these sentiments may suggest the catalyst for the current drop, they do not inform us of what will happen next. Sometimes, market setbacks are over and forgotten in days. Other times, they more sorely test our resolve with their length and severity. We can’t yet know how current events will play out, but we do know this:

  1. Capital markets have exhibited an upward trajectory over the long-term, yielding positive, inflation-beating returns to those who have stayed put for the ride.
  2. If you instead try to time your optimal market exit and entry points, you’ll have to be correct twice to expect to come out ahead; you must get out and back in at the right times.
  3. Every trade, whether it works or not, costs real money and has tax consequences.

Also, be wary of hyperbolic headlines bearing superlatives such as “the biggest plunge since …” While the numbers may be technically accurate, they are framed to frighten rather than enlighten you, grabbing your attention at the expense of the more boring news on how to simply remain a successful, long-term investor. Remember black Monday in 1987 was a 508 point drop or a 22% decline. Yesterday’s 1,175 point drop or a 4.6% decline was hardly worthy of “biggest” news headlines.

Instead of fretting over meaningless milestones or trying to second-guess what U.S. economics might do to stocks, bonds and inflation, we believe the more important point is this: Market corrections are normal – and essential to generating expected long-term returns. In fact, periodic setbacks ranging from mild to severe are more “normal” than the record-breaking S&P 500 run-up we’ve been experiencing lately.

In short, if you have any questions or concerns please reach out we are here to help.

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