It’s appropriate and logical that bull markets are book-ended by surreal and sometimes scary events. The bull market that was born in March of 2009, when the world was immersed in the Great Financial Crisis, ended this week. She was 11 years old. The one before that was born from the ashes of 9/11. And so on through history…
Bull and bear markets are defined by the somewhat arbitrary definition of a market close 20% above or below the previous high or low. When the market reverses by that much, it has shifted from a bull to bear market, or vice versa.
The last few weeks’ news has come fast and furious, with stunning velocity. What started as a far away virus is now present in our cities, our hospitals, and some of our families. While this was happening Russia and Saudi Arabia started a price war in oil, sending the price down 30% overnight. Good luck predicting that confluence of events ahead of time.
The combination has created a tailspin in the global markets – and the fastest bear market in history.
Things haven’t felt this scary in a long time. When it comes to investing, it’s easy to say ‘stay the course’ – but it’s very hard to do!
So where can we redirect this sense of urgency?
Try your hardest to ignore the hysteria
It’s one thing to be knowledgeable about market events and news. It’s quite another to participate in the panic and conspiracy theories. It’s human nature, especially when things get scary, to want to find more information, more commiseration, to dig and dig until we reach the end of the internet. If you look long enough you’ll find nothing but doomsayers and I-told-you-so prognosticators.
We don’t know the future. No one does. It’s not worth speculating on what will happen to the markets 6 months from now. We know the virus and its effects are here, now, and we’re taking action – in our lives and in the market – to combat it, as are governments worldwide. There is a limit to what we can do. Trying to guess the future is both impossible and won’t help your stress levels or preparedness.
Diversification in all its glory
For lack of a better word we’re immersed in a “panic” market. People are selling assets indiscriminately, a “baby with the bathwater” type of liquidation. People are scared, and it shows.
This is a good chance to view diversification benefits play out in real-time. Here’s the year-to-date chart of the S&P 500 vs. Long-term treasury bonds:
A month ago, with markets at all-time highs, you may have been tempted to say “things feel great, the economy is great, markets are great. Why not just own all stock?”
Well…this is why. The above chart beautifully says what words can’t. Diversification works – treasuries have provided a nearly perfect mirror-trade against a crashing market.
Why we use trend-following
We believe in using trend-following to help manage risk in our portfolios.
The saying “trend is your friend” is simple but summarizes it well. When assets are in an upward trend, the prices tend to be “sticky.” They remain close to the trendline until it’s broken. Then, they tend to stick in the other direction. The reasons are not always clear, but human nature is the best explanation.
People move in herds. When we’re greedy, we tend to be greedy together. When we’re scared, we’re all scared at once (see: now). Emotions still move markets.
We measure relative and absolute trends each month on a rolling basis and adjust portfolios accordingly. At the beginning of March assets had mostly reversed their long-term uptrends and were flashing caution, and our process sold a portion of riskier assets accordingly and allocated the money to short-term bonds.
(the following charts show S&P 500 and Real Estate breaking the long-term trendline)
Is trend-following a perfect solution? Of course not. But perfect is the enemy of good. Trimming our risk by small amounts can make the numbers better, you feel better, and will cushion the blow if the situation keeps getting worse.
Markets going down is normal and necessary
I’ve written before that this is what it feels like to make money. You don’t make money when the market “feels good.” You make it buying when prices are low and things are scary. Then waiting. Patiently.
If you don’t need to use the money in the next few years, this will end up being just another mark on a long-term uptrend in the markets. Worrying about losses is normal, it flat out sucks to see all that money evaporate. But that doesn’t mean you change your long-term strategy. Market corrections are a price to be paid for the long-term payoff:
Investing is a long-term thing, right?
Losing money is painful. It’s ok to feel low, and I don’t mean to make light of it.
But investing for the long-term includes times like these. In fact, it happens nearly every year:
The bars in this chart show the yearly return, while the red dots indicate how far the market fell during that year.
For example, last year shows a 29% gain, but the red dot shows at one point we fell 7%. Even great market years include periods of losses.
If we pull our timeline back far enough, we regain proper perspective of where we stand historically:
This graph covers 100 years of war, recessions, all kinds of trials and tribulations that were terrifying to live through. The market, over short time periods, can go in any direction. As the graph shows, over long time periods, it’s hard to argue it goes anywhere but up.
Would love to hear your feedback on how you’re handling things in your world?
In the meantime, stay safe, and please wash your hands!