It’s been a very discomforting start to 2022 for anyone invested in the stock market. It seems like the bad news just never stops…
“Russia invasion of Ukraine wears on, more casualties…”
“Inflation readings at their highest in decades…”
“Can’t find baby formula anywhere as supply chains issues deepen...”
“Stocks down again after another volatile trading session…”
If you’re feeling anxious, you’re not alone. US Consumer Sentiment is at a decade low.
As you read from our blog last week on emotional investing, we humans are hard-wired to be reactive. If we can acknowledge those emotions and stick to our long-term plans and not let emotions get the best of us (e.g. buy high / sell low), we can participate in very rewarding long-term market returns. If not, bad things can happen as shown in the graph below. Amazing how just a few days out of the market can cause significant underperformance to your portfolio.
There are a lot of different stock market benchmarks out there. Most popular is the S&P500, but plenty of others. All are down in 2022. As a refresher, here are some definitions to terms you have probably heard lately.
DEFINITION OF PULLBACK (-5%):
- A falling back of a price from its peak, typically 5%.
- This type of price movement might be seen as a brief reversal of the prevailing upward trend, signaling a slight pause in upward momentum.
DEFINITION OF CORRECTION (-10%):
- A falling back of a price from its peak, typically 10%.
- Corrections are generally temporary price declines interrupting an uptrend in the market or an asset.
- A correction has a shorter duration (usually < few months) than a bear market or a recession, but it can be a precursor to either.
DEFINITION OF BEAR MARKET (-20%):
- A falling back of a price from its peak, typically 20%.
See the chart below. A couple benchmarks like the Nasdaq and the Russell 2000 have already reached bear market territory; the others have all pulled back and well into correction territory and appear to be closing in on bear status.
It doesn’t look pretty and it isn’t fun when you’re in one, but bear markets happen quite frequently and are a normal part of any market cycle. In fact, if you go back to 1966, it has happened 8 times for the S&P500. But besides the 2020 bear market that lasted all of 33 days – you could have blinked and missed it – we haven’t had an extended bear market in over a decade, last one being the Great Financial Recession! It’s understandable how investors have become complacent. Not to mention, we live in a 24/7 news environment with our many devices screaming negative headlines, e.g. “the market is down again!”
The good news is that bear markets typically don’t last long with the average duration about 1 ¼ years. Contrast that to how long bull markets are on average: about 6 years!
Besides Bull Markets lasting a lot longer than Bears, here are some other basic guidelines:
- Bull Markets experience valuation growth as well as price growth
- Bear Markets experience valuation declines, regardless of earnings growth
- Bear markets are typically more volatile than bull markets
- Bull & Bear markets are driven by greed and fear as much as sound economic fundamentals
- Bull markets end from an external shock, NOT due to a time frame. Past examples include rising inflation (1974), rising interest rates (1979), & overvaluation (2000 Nasdaq crash following dot.com craze). Plenty of external shocks happening right now!
By the way, here’s another definition.
DEFINITION OF A RECESSION: when GDP falls two consecutive quarters.
The odds of this happening in 2024, if not earlier, have increased. Just a week ago, Goldman Sachs CEO David Solomon said it’s a 30% chance of happening in the next 12 to 24 months. That being said, you don’t need a recession to get a bear market and you don’t need a bear market to get a recession. Recall that the market is always forward looking. Frankly, a lot of the bad news is already built into today’s prices. And yet there are still positive signs:
- The unemployment rate is at historical lows at a time when we have about two job openings for every unemployed person.
- People and businesses are flush with cash.
- Corporate earnings are very strong.
- A recession has never happened with this mix of conditions.
So what’s next? No one can reliably predict the future and when the market might change direction and for how long. There’s no direct correlation between GDP, the economy, and the stock market. The world continues to change and old formulas/rule of thumbs may not apply. The S&P500 may enter bear market status soon or it may not, but it will someday in the future because bear markets happen. It will also at some point reach a new record high in the same fashion it always has.
There’s lot of uncertainty, which is unsettling, but markets have rewarded discipline. Thus, regardless if the other stock benchmarks fall into bear territory, you want to: remain disciplined, don’t become anxious on what you cannot control, and focus on what you can. Here’s what you can control:
- Creating an investment plan to fit your needs & risk tolerance
- Identifying an appropriate long-term Asset Allocation Target Mix
- Structuring a diversified portfolio
- Reducing expenses and turnover
- Minimizing taxes
- Rebalancing regularly
- Staying invested
A wealth manager like DWM can help you create a plan and focus on actionable items like above that add value. In the meantime, don’t let your emotions get in the way and let a bear scare you.