Ask the Rational Investor: Remain Calm Amongst the Fog
Without question the last few weeks have been gutwrenching.
Erratic financial markets, temporarily-closed restaurants, and grocery store shelves left bare. Constantly being inundated with negative news headlines and uncertainty has made the current bear market one of the most emotional.
It’s hard to imagine a more uncertain time period than today.
During the Great Financial Crisis of 2008, Warren Buffet famously wrote an Op-ED called “Buy American. I Am.” In Buffet’s article, he argued for a simple rule: “Be fearful when others are greedy, and be greedy when others are fearful.”
It is hard to step away from empty grocery shelves and declining stock markets, but it is imperative to your long-term financial health to remain calm and focus on the long-term.
At this point, a global recession is almost guaranteed, but the goods news is that not all recessions are created equal. In a Goldman Sachs study, recessions were organized into three categories: Structural, Cyclical, and Event Driven.
While the average decline in the stock market during a bear-market was almost 40% and took almost 60 months to return to previous highs, event driven bear markets (similar to the Coronavirus sell-off) typically recover within 12 months, on average.
Economists forecast a “V” shaped pattern with a sharp decline in economic growth in the U.S. and globally in the first half of 2020 and a snap-back in the following two quarters.
The U.S. Treasury and Federal Reserve have taken considerable actions to calm the credit markets, which are showing signs of improvement. As an example, last week it was very challenging to sell treasury, investment grade, and municipal bonds. Actions taken this week by the government have improved liquidity in the credit markets.
As credit markets heal the stock market will stabilize.
Over the next week or two, fiscal stimulus, airline, casino, and hotel intervention and Coronavirus testing results will reduce uncertainty.
Remember, the stock market is a great voting machine. It incorporates all current data and prices stocks appropriately. During times of extreme fear and uncertainty, great companies get lost in the crowd and can make highly-attractive investments for the long-term.
Usually, stocks are valued by analyzing their long-term stream of earnings and dividends. In a panic, investors focus on short-term headlines and not the underlying earnings power over the next decade.
Lastly, it is important to focus on your long-term goals. Be careful of justifying quick asset allocation changes with an emotional-driven rationale.
Sources: Goldman Sachs