When you are staring down from the top of a mountain (in this case it was Tamarack Mountain in Idaho), you generally have two choices of how to ski down (or ride down as snowboarding is our winter sport of choice): the easy way or the hard way. The former (on Tamarack, for all you ski bums, it is a "blue" trail — appropriately called "Serenity" and pictured above) winds gently down 2,800 vertical feet amidst beautiful patches of tamarack pine forests and bouldered outcroppings but never really tests the limits of an intermediate skier or snowboarder.
Then there is the hard way: "Tango," or a "black" trail that is not for the faint of heart. Steep, fast and narrow, this deathtrap amps up the "gnar" with three sinister headwalls that command respect the whole way down. Of course, Tango was our dance of choice on Tamarack.
And gnarly it was! Our run started out strong. We were feeling good, confident and looking like Olympic gold medalist and Clevelander Red Gerard (at least in our head) when we came into the second headwall a bit out of position. Disaster struck — a bail of epic proportions and a painful landing, sliding most of the way down the run on our butt at a high speed. Not good.
Over the past two weeks, the U.S. equity market's overdue correction bailed down the Tango trail as well. Since its peak on January 26, the S&P 500 Index is down almost 9% as of the date of this post. After a long run of little to no volatility, which we have been closely monitoring, it has returned with some big moves in the index, both up and down.
If you pay at least passing attention to financial media, you know there is a whole army of polished financial professionals that sound good. They seem to know exactly why the market went down. They divine the future path of the market with supposed accuracy. We call baloney. We have some ideas on what is going on and some guesses on future direction, but that along with $2.15 will get you a cup of coffee at the Boise airport.
We believe no one can accurately or consistently guess the direction the market will move. It could be up, down or sideways. We simply do not know, and we do not have a crystal ball. One thing we know for certain is that a bit of emotion and fear have returned in the markets. When that happens, capital markets usually become divorced from their underlying financial fundamentals, which, by the way, remain in good shape.
No one (especially clients) want to hear this answer when markets are stressed because it does not necessarily exude confidence and assure them everything will be all right.
But it is the truth. We just don't know.
Here is what we do know:
- In the grand scheme of things, the short-term volatility we experience from time to time is nothing more than a blip. Given a long-term investment horizon, an investor may not remember these bouts of market turbulence 10, 20 or 30 years from now. We can almost guarantee it.
- Because human beings are involved in financial markets and human beings are controlled by the still-primitive fight-or-flight behavioral response when faced with stressful situations, financial markets will forever oscillate between complacency and insanity. Sometimes in as little as two weeks given our recent ride.
- Financial markets are cyclical. Despite the shockingly long period of complacency (or the lack of very significant equity market sell-offs) since 2009, equity markets have a tendency to correct (go down) by over 10% (peak to trough) in about 50% of any annual period. This has been the case since 1950 using the S&P 500 Index as a proxy. As a reminder, we have had a few 10% corrections since 2009 and low and behold we survived!
- Bear markets, technically defined as a sustained 20% correction, happen and will happen again. Will this one turn into a bear market? We don't know. Note the risk of recession (defined as two quarters in a row of declining business activity) in 2018 still remains low. This is important because bear markets usually but not always coincide with recessions based on our study of business cycles over the last 100 years. A recession will happen at some point in the future, and it will most likely come by way of the Federal Reserve Bank raising short-term interest rates too much, too fast or both. Steel yourself now.
- Reacting emotionally to downside volatility and not sticking to your financial plan in the short-term can be a long-term mistake. A decision to sell during times like these can make the pain, anxiety and sleepless nights go away. But so can drinking a lot of "Idaho mules" (a wonderful concoction of huckleberry-infused vodka, lime juice, and ginger beer). Both work in the short-term, but both can also cause problems in the long-term. By selling at the wrong time, you realize a permanent loss of capital immediately and forgo the inevitable move higher. After all, eventually, over a long enough period of time, financial markets may move higher.
That last point is incredibly important. Making a bad financial planning decision based on fear of downside volatility is like not getting back on the ski lift after a fall in the morning and going back to the lodge on a perfect bluebird day. Instead, going back to the top of mountain, looking out over the beautiful panorama of mountain terrain and heading down the slope to shred the gnar once again is always the better decision.
The ski lifts run to 4 p.m. Get it on and stay on plan!
Contact Russell Moenich to learn more about this topic.
330.255.4330 | email@example.com