By Guest Blogger Doug Rowat
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In July, we received this email:
[We] have come to the decision that we would like to stay on the sidelines in the stock market until the long-term effects of COVID go away.
We are avid followers of Garth’s weekly conference calls and we are well aware that it is never a good strategy to try to time the market. However, we fundamentally do not share Garth’s near-future positive outlook on the markets, despite the silver-lining good news about recovery, pandemics are temporary, etc.What we would like is to liquidate all assets in all accounts and keep the proceeds as cash in their respective accounts until further notice from us (which could be a while).
When markets are volatile and news headlines are frightening such client emails are not uncommon. But the problem with decisions like the one above are two-fold:
1) It’s an unambiguous wager on market direction (“liquidate all assets in all accounts”). This couple is saying with 100% certainty that they know where markets will go next (in this case, lower). But, of course, no one can be certain. I’ve been in the investment industry for decades and I’m never, ever positive of market direction. This is why we maintain balanced portfolios for our clients—to hedge against the unexpected. And, as if the investing gods wanted to illustrate the danger of an unequivocal outlook, markets have, of course, skyrocketed since this email.
2) It’s almost always the better long-term decision to invest MORE into the market when you’re feeling uncomfortable rather than less.
It’s the second point that I want to focus on here.
More wealth is created by moving towards fear than away from it. Investment journalist and author Ben Carlson notes that the best returns come when “the economy is getting body slammed” and he illustrates this point via the table below, which compares the US unemployment rate and market returns:
S&P 500 returns versus US unemployment rates
Source: A Wealth of Common Sense
Naturally, when the unemployment rate is elevated there’s greater discomfort surrounding investing, but that’s the point: when you feel most uncomfortable is usually when you should be investing more in the market. Similarly, in the midst of a recession it’s an emotionally difficult decision to add funds to your portfolio, but history tells us that that’s exactly what should be done.
Carlson examined US recessions going back to 1945 and noted that, remarkably, the S&P 500 trades higher more than 60% of the time DURING the actual recession itself with an average gain of 3.8%. Following the recession, of course, the returns are even more impressive. Given that recessions historically last less than 11 months, it’s pointless to try and market-time your way around them. On the contrary, it makes more sense to simply add to your portfolio (or at least rebalance it) during one. This will position it even better for the recovery:
S&P 500 performance post-recession
Source: A Wealth of Common Sense
I’ve made similar observations about the importance of buying on weakness and struggling through the uneasiness that accompanies such decisions by simply looking at the worst single-day declines for the S&P 500 over the past five decades. Should you run in fear when the S&P 500 plunges by 5%, 10% or even 20% in a single trading day? The massive pit in your stomach may make this your first impulse, but history says to use these opportunities to back up the truck:
The worst S&P 500 single-day returns over the past 50 years…
Source: Bloomberg, Turner Investments
There were actually four more days from 2020 that would have made the list above (see table below); however, we’ve not yet had a subsequent full-year of return history. However, here’s what the returns have been thus far:
…and a few more from 2020 as well
Source: Bloomberg, Turner Investments
Anyone want to bet that the returns won’t still be strongly positive when we get to the one-year mark? It would have been a very uncomfortable decision back in March to add funds to your portfolio, but investing on weakness (or at least rebalancing on weakness) was, once again, despite the discomfort, the correct strategy.
Helen Keller famously said that “avoiding danger is no safer in the long run than outright exposure”. And so it is with investing. You’ll feel better (temporarily) by raising cash, but such a decision will very likely only make you poorer in the long run. And with respect to your market re-entry point, waiting on the sidelines “until the dust settles” really means waiting “until my fear’s gone away”. But by the time your fear’s subsided, it’s already too late. The market’s passed you by.
There’s nothing wrong with being afraid. Just don’t let the fear win.
Doug Rowat, FCSI® is Portfolio Manager with Turner Investments and Senior Vice President, Private Client Group, Raymond James Ltd.