The normal cycle of volatility is one that few of us are willing to accept. After all, the notion of equity markets declining by nearly -34% in a mere month, such as the COVID bear market of 2020, is not a pleasant event. Most investors associate such volatility as losing money, especially when translating the downside to absolute dollar amounts on their household assets. We urge caution in that mentality, and I want to highlight three critical topics that are overlooked.
Firstly, losing money during a volatile equity market occurs only when an investor takes actionable steps to exit equity market participation when they otherwise do not need to. Our emotions tend to overpower our rational capabilities and, as a result, inappropriate decisions are made. Smart investment decisions are rarely made when all investors agree on the same decision. Meaning, when volatility strikes and fear has peaked, we believe that to be a tremendous time to enter, or increase, equity market participation. That is often a time when most investors seek to exit equity market participation, which is usually a poor decision.
Secondly, many investors neglect the fact that downside volatility is a needed and heathy stock market occurrence. Period. Certain volatility cycles tend to be more severe than others but that does not make them unnecessary because they do serve an appropriate purpose. It is those volatility cycles that allow the stock market to gain stronger value over the long-term.
Thirdly, and lastly, volatility cycles have historically generated a proven track record of success. Our analysis indicates that annual declines are rarely ever representative of the bottoming cycle for that year. This supports the notion that measurable downside volatility each year can still result in a positive total return for that year. Or, alternatively, strong downside can still result in positive gains even when the markets finish in negative territory. This can occur under a scenario where an investor increases their equity market participation and/or adds net new cash to their investment portfolios.
Embrace volatility because it can often produce more benefits than perceived fears. Opportunity is rarely apparent in its best form.
Edison Byzyka, CFA – Chief Investment Officer – Credent Wealth Management
Investment advice offered through CX Institutional, a registered investment advisor.
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. To determine which investment(s) may be appropriate for you, consult your financial advisor prior to investing. All performance referenced is historical and is no guarantee of future results. All indices are unmanaged and cannot be invested into directly. The economic forecasts set forth in the presentation may not develop as predicted.
All return data sourced from Bloomberg.
All other data soured from Bloomberg, through the release of monthly figures from the Department of Labor, Bureau of Economic/Labor Statistics, U.S. Census Bureau, or from the Federal Reserve and any of its affiliated regional locations.
Small Business Optimism sourced through NFIB. Small business hiring plans sourced through NFIB. Consumer sentiment sourced through the University of Michigan.
Earnings data sourced through Bloomberg Intelligence and through Bloomberg’ earnings analysis composites. Interest rate cut/rise probabilities are sourced from Bloomberg’s tracking of futures contracts tied to the Federal Funds interest rate.
Manufacturing data – Markit PMI – Bloomberg
Economic Policy Uncertainty data sourced from Bloomberg via The Baker, Bloom, and Davis Index.
The Standard & Poor’s 500 Index is a capitalization weighted index of 500 stocks designed to measure performance of the broad domestic economy through changed in the aggregate market value of 500 stocks representing all major industries.
International markets are represented by the MSCI EAFE.