“The trick is not to learn to trust your gut feelings, but rather to discipline yourself to ignore them. Stand by your stocks as long as the fundamental story of the company hasn’t changed. People who succeed in the stock market also accept periodic losses, setbacks, and unexpected occurrences.” – Peter Lynch
Typically a difficult month for investors, February 2022 featured rising interest rates, continued inflation concerns, and a military buildup of Russian troops along the Ukrainian border. With this as the background it is little surprise that most equity indexes were negative for the month. Nor was it a surprise to see the US Dollar Index strengthen on the flight to safety trade, or commodity prices continue higher on the same fears. The Bloomberg Aggregate Bond Index’s loss of 1.10% for the month was less than we would have expected with the situation in Europe.
All data as of 3/01/2022, Source: Wells Fargo Investment Institute. [Wells Fargo Investment Institute, Inc. is a registered investment advisor and wholly-owned subsidiary of Wells Fargo Bank, N.A., a bank affiliate of Wells Fargo & Company.]
In our Stock Market Outlook 2022 we noted the ease with which gains came for investors in 2021 while taking a more cautious approach to the prospects for the new year. After three pretty remarkable years for the S&P500 (up 16.26% in 2019, +16.26% in 2020 and +26.89% last year), we felt it very reasonable to enter 2022 with some caution along with expectations for some downside volatility.
Put another way, we believed that volatility would return to the stock market and the expectation of a market correction was reasonable.
Stock market corrections are a part of investing. They happen. More to the point, they happen more than you or I would like. Since 1950, the S&P 500 has experienced a correction of 10% or more 36 times, or every other year. That volatility you so dislike is the reason stock market returns are far better than those you receive on bonds or cash. You are getting paid for the volatility. You are getting paid for the risk of variable returns.
A bear market – defined as a market loss of more than 20% – is a much less frequent event. According to Hartford Funds, there have been 26 bear markets since 1928, one every 3.6 years. And unlike bull markets that tend to be long in duration (average 991 days), bear markets last on average 9.6 months (289 days). They are painful, but short.
Even with the current state of the world we do not expect a bear market. The economy remains good, even as inflation uncertainty remains elevated, which has a direct benefit to corporate earnings.
Our 2022 theme of participate and protect was based around the idea that markets don’t go straight up, but tend to correct from time to time. Specifically, we noted the following:
“Underneath the surface of steady gains for investors there were some concerning issues for both the stock market and the bond market. For stocks, there was a real breakdown in many of the companies with little or no earnings that led in 2020. This is reminiscent of what happened in 2000 with technology stocks. Along with this, market multiples (the price investors are willing to pay for a dollar of earnings) enter 2022 at what can only be described as historically high. Again, reminiscent of 2000.”
The Headwinds are Strong
As we write this, inflation is front-of-mind for most Americans, there is a hot war in Europe for the first time since WWII, and we are 2+ years into a pandemic which has taken the lives of more than 1 million Americans. That is A LOT to deal with. It also leaves out labor shortages, supply chain issues, and imminent interest rate increases coming from the Fed, starting this month.
Again, that’s A LOT!!!
Yet, we would like to remind you that we are not living in unique times. We cannot think of a time when there wasn’t some concern (or 5 or 10) in our worry chest.
There’s always some reason you can use as an excuse to steer clear of the stock market if you’re looking for one. Some of the time, the decision to do that looks right in the very near future. But every pullback, every correction, even every bear market has always ended with the stock market moving to new all-time high levels.
Want to go to cash for the “safety” and “security” of cash? OK. Then what? When do you get back into the stock market?
We know that the best days for the market tend to come during times of volatility. History tells us if you miss best days because you “cashed out” waiting for better times, you missed out on the gains you get for taking the volatility risk (chart #3). You don’t get the return premium you receive for owning a volatile asset if you sell when you get the volatility.
The Headlines Will Get Worse but the Ability to Shock Us Will Lessen
This statement is something that is true but doesn’t necessarily feel true. We remember when Lehman Brothers filed for bankruptcy on September 15, 2008 and the world felt like it was going to end right then and there. The days that followed weren’t any easier as the Federal Government didn’t have an answer for a financial system that looked to be on the edge of a collapse and the stock market was in what can only be referred to as a free fall.
Things got worse before they got better. What changed wasn’t the bad news, but the REACTION TO the bad news. At some point the bad news was almost expected. We moved from asking “OMG now what?” to asking “ok, what’s next?” It’s a subtle, but important change in mindset. It is moving from getting hit with the unexpected to receiving bad news and taking it for what it’s worth and moving on.
When the market turned up in March, 2009 the news wasn’t rainbows and unicorns. What changed was the ability to look forward past the bad to better times. And those better times came well before the good news arrived.
So, What’s an Investor Supposed to Do?
Maybe nothing, maybe something. It depends on you and where you are in life. If you are in the accumulation phase the best thing you can do is stick to the savings plan. If you can afford it, increase your monthly 401k contribution level. Same advice if you are in the Growth & Planning Phase. Those in the Preparation Phase (5 or less years to retirement) or in Retirement may need to modify their Asset Allocation. After three great years in the markets, at minimum you should be rebalancing back to a neutral allocation. For those who are trending above your goal you should actually be dialing back your risk allocation.
But what about those who are either on the fence or just too nervous to stick firmly to the long-term plan?
- If you don’t have a financial advisor get one: Every year independent research firm Dalbar Inc. publishes its annual Quantitative Analysis of Investor Behavior (QAIB). Every year it shows that investor behavior negatively impacts performance. For the 20-year period ending 12/31/2021 the average equity fund investor returned 5.96% vs. the S&P500 at 7.43% and the Global Equity IFA Index Portfolio 100 at 8.29%. Part of our job as your advisor is to help you remain properly invested in all market conditions.
- Talk to Your Financial Advisor: It is our job to help you not make the mistakes of the average investor. Our job is to keep you focused in on the long-term, not the market gyrations of the next week or month. In times like these we make sure clients have all of their questions answered to the best of our ability. We cannot tell you what will happen tomorrow or next week, but we can help you understand what is happening in real time.
- Tactically Shift Your Asset Allocation: This is a temporary change to dial back, but not eliminate the equity exposure within your asset allocation. For those who are in the “can’t sleep at night category” a reduction in risk over the short-term can save you over the long-term by keeping you in the market (see Chart # 3 for details on missing the best days of stock market performance).
After two years of dealing with a global pandemic, investors are now confronting a world of uncertainty around interest rates, inflationary concerns, and a war in Europe. Nobody knows how any of this ends. What we can say with a high level of confidence is that it will end. Bad times have always led to better times. The 36 corrections since 1950 have all been followed by a return to higher stock prices. It is this volatility that creates the excess return investors receive from owning stocks vs. bonds or cash.
Having the discipline to focus on the long-term is easy when the going is good for the stock market and near impossible when the periodic setback occurs. The key to long-term success as an investor is to accept that there will be periods of loss between the periods of gain. We admit that this is not the easiest thing to do, but it is essential.
The way through market volatility is to turn off your instincts, stay informed, own quality investments, and stay invested.
On behalf of Magellan Financial we would like to thank you for taking the time out of your busy day to take in our thoughts and opinions. If you found this helpful, please forward it on to others. If you have any questions on the materials presented, would like to be added to our email list, or would like our help with your investments, we can be contacted at 610-437-5650 or via email.
Wells Fargo Advisors Financial Network did not assist in the preparation of this report, and its accuracy and completeness are not guaranteed. The opinions expressed in this report are those of the author(s) and are not necessarily those of Wells Fargo Advisors Financial Network or its affiliates. The material has been prepared or is distributed solely for information purposes and is not a solicitation or an offer to buy any security or instrument or to participate in any trading strategy. Additional information is available upon request.
Asset allocation and diversification are investment methods used to help manage risk. They do not guarantee investment returns or eliminate risk of loss including in a declining market.All investing involves risks including the possible loss of principal invested. Past performance is not a guarantee of future results.
Index returns are not fund returns. An index is unmanaged and not available for investment.
Dow Jones Industrial Average: The Dow Jones Industrial Average is a price-weighted index of 30 “blue-chip” industrial U.S. stocks.
S&P 500 Index: The S&P 500 Index consists of 500 stocks chosen for market size, liquidity, and industry group representation. It is a market value weighted index with each stock’s weight in the Index proportionate to its market value.
S&P Midcap 400 Index: The S&P Midcap 400 Index is a capitalization-weighted index measuring the performance of the mid-range sector of the U.S. stock market, and represents approximately 7% of the total market value of U.S. equities. Companies in the Index fall between the S&P 500 Index and the S&P SmallCap 600 Index in size: between $1-4 billion.
S&P Small-Cap 600 Index: The S&P SmallCap 600 Index consists of 600 domestic stocks chosen for market size, liquidity (bid-asked spread, ownership, share turnover and number of no trade days) and industry group representation. It is a market value-weighted index (stock price times the number of shares outstanding), with each stock’s weight in the index proportionate to its market value.
MSCI World Index: The MSCI World Index is a free float-adjusted market capitalization index that is designed to measure global developed market equity performance.
MSCI EAFE® Index: The MSCI EAFE Index is designed to represent the performance of large and mid-cap securities across 21 developed markets, including countries in Europe, Australasia and the Far East, excluding the U.S. and Canada.
Bloomberg Barclays U.S. Aggregate Bond Index: Bloomberg Barclays U.S. Aggregate Bond Index is a broad-based measure of the investment grade, US dollar-denominated, fixed-rate taxable bond market.
NASDAQ Composite Index: The NASDAQ Composite Index measures the market value of all domestic and foreign common stocks, representing a wide array of more than 5,000 companies, listed on the NASDAQ Stock Market.
Russell 2000® Index: The Russell 2000® Index measures the performance of the 2,000 smallest companies in the Russell 3000® Index, which represents
Technical analysis is only one form of analysis. Investors should also consider the merits of Fundamental and Quantitative analysis when making investment decision. Technical analysis is based on the study of historical price movements and past trend patterns. There is no assurance that these movements or trends can or will be duplicated in the future.
Stocks offer long-term growth potential, but may fluctuate more and provide less current income than other investments. An investment in the stock market should be made with an understanding of the risks associated with common stocks, including market fluctuations.
Investing in foreign securities presents certain risks not associated with domestic investments, such as currency fluctuation, political and economic instability, and different accounting standards. This may result in greater share price volatility.
Investments in fixed-income securities are subject to market, interest rate, credit and other risks. Bond prices fluctuate inversely to changes in interest rates. Therefore, a general rise in interest rates can result in the decline of the bond’s price. Credit risk is the risk that the issuer will default on payments of interest and/or principal. The risk is heightened in lower rate bonds. If sold prior to maturity, fixed income securities are subject to market risk. All fixed income investments may be worth less than their original cost upon redemption or maturity.
Investing in commodities is not suitable for all investors. The commodities markets are considered speculative, carry substantial risks, and have experienced periods of extreme volatility. Investments in commodities may be affected by changes in overall market movements, commodity index volatility, changes in interest rates or factors affecting a particular industry or commodity. Exposure to the commodities markets may subject an investment to greater share price volatility than an investment in traditional equity or debt securities. The prices of various commodities may fluctuate based on numerous factors including changes in supply and demand relationships, weather and acts of nature, agricultural conditions, international trade conditions, fiscal monetary and exchange control programs, domestic and foreign political and economic events and policies, and changes in interest rates or sectors affecting a particular industry or commodity. Products that invest in commodities may employ more complex strategies which may expose investors to additional risks, including futures roll yield risk.
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