Bad News, Good News, No News: What's an Investor To Do?
Mid East and Ukrainian unrest, U.S. immigration and IRS scandals, West Coast droughts and wild fires ... recent market volatility might allow those who have been predicting a market slap-down to say, "See, I told you so." Or not. We can't tell you whether today's decline will prove to be a blip or a trend. But either way we would advise you to either stick with your long-term investment portfolio if you've got one, or devote your energy to crafting a long-term strategy if you've not yet done so.
The problems with trying to time the market instead, reacting to good, bad or any other near-term news are at least three-fold:
1. You can't forecast a surprise. A bounty of academic evidence informs us that there's no reliable way to predict what's coming next for market price-setting. Stock prices do not change in reaction to whether news is good or bad; they change when the news is better or worse than expected. It stands to reason: If we can't expect it, we can't predict it.
2. Win or lose, the trades will cost you. If you do place trades based on market moods, you can't know how you'll fare, but one thing is certain: You'll be spending real money to find out. Again, there is plenty of evidence that you're likely to underperform the very funds in which you're invested if you try to jump on the runs or avoid the corrections.
3. You can't win by sitting on the sidelines. While the market is highly volatile in the near term, it has trended generally upward over time. By dedicating a portion of your investments in the market and keeping it there for the long-haul, you stand the best chance to build wealth with that portion of your portfolio ... IF you ignore the stomach-churning drops along the way. To help smooth the ride and tailor your portfolio to your goals and risk tolerance, we also recommend globally diversifying your stock holdings, dedicating a portion to safe-harbor fixed income investments, and sticking to your allocations through thick and thin.
A Comforting Context
While all this may sound sensible enough in theory, we know how theory can be harder to apply when you're reading an equally logical article predicting doom and gloom. Our human brains are hardwired to panic when exposed to risk, whether it's in the form of a physical or financial bear.
When I begin to feel that churning sensation in my own stomach with respect to my investments, I like to recall a JPMorgan Chase & Co. chart shared by Barry Ritholtz in his 2013 blog post, S&P 500 Intra-Year Declines vs. Calendar Year Returns. It shows that nearly three out of every four years between 1980–2012 delivered positive annual returns – thus that long-term market growth. But each year, whether it ended up or down, included periods of negative returns that required investor stamina. Overall, investors had to tolerate an average of –15 percent annual drops if they were to remain invested throughout the analyzed period. J.P. Morgan Asset Management provided an updated version of the same chart in slide #14 of its 3Q|2014 Guide to the Markets®, with a similar story to tell.
Visuals like these remind us of the wisdom of keeping our investment eyes on the bigger picture.