Worried About the Stock Market?

April was a rough month for stocks. The S&P was -8.8% for the month, and -13.3% through the first four months of 2022. The NASDAQ was even worse at -13.3% for April and -21.2% YTD through 4/30/2022. Stocks typically rise in value three out of every four years historically. The one down year is inevitable and expected, but always feels terrible. I have been discussing the recent stock market correction with friends, neighbors, and clients. One person asked me whether they should proceed with buying a house considering what’s going on in the stock market. Another asked me if I thought they should cancel their travel plans to conserve money.

Most people should continue to travel, buy, or fix up their homes and spoil their grandkids as though they do not have any idea of what is going on in the stock market. Your financial plan is built to withstand the occasional down year.

Let’s keep market corrections in perspective

Clients do not like to hear this, but markets are more volatile than most investors realize, and we never know if the market will bounce right back as it has dozens of times over the past decade, or if this is the beginning of a larger/longer decline like 2000-2002 or 2007-2008. Market corrections (declines of 10%-19.9%) happen about once a year, and the average retiree will experience five to six bear markets (> 20%  declines) during their retirement. The good news is the average bear market only lasts about 10 months from peak to trough, and then markets begin marching higher again. Every single bear market has been a buying opportunity, and the market has recovered to reach new highs every time.

Markets are more volatile than most investors realize

Below, I have posted one of my favorite charts from JP Morgan’s Guide to the Markets. Here are the key takeaways:

• The S&P 500 has dropped an average of 14% at some point each year (intra-year decline) as indicated by the red dots.
• Despite these drops, the market ended the year in positive territory in 32 of the past 42 years. (Calendar year returns are represented by the gray bars)
• The market has only dropped for two consecutive years once since 1980.
• Despite what seems like constant volatility, the S&P has averaged 9.4% annualized returns over the 42-year period.

Below, I have posted a screenshot from a retirement planning course I used to teach that shows the returns of a conservative portfolio over the 20-year period of 1997—2016.  This portfolio is 70% cash or bonds and only 30% stocks, yet it still declined 14.8% in a single year. Most retirees, in my experience, invest more aggressively than this. The point is that even conservative portfolios will experience volatility.

(Source: Thompson Reuters, 2017. Past performance is no guarantee of future results. The returns shown do not include taxes, fees, and other expenses. Actual results will vary.)

Does your investment portfolio match your risk tolerance?

We know that the market will bounce back.  The question is whether each investor will be able to stay the course to benefit from the recovery.  To this end, we use software that measures the volatility of our portfolios and assigns each client a risk score based on a risk tolerance questionnaire. This enables us to recommend an appropriate portfolio for each client. You can see in the screenshot below that a moderately conservative portfolio (risk score of 45) has a 95% probability of returning in the range of (-8.2% to +16.3%) in any 6-month period.

However, this is not the maximum upside or downside an investor in such a portfolio can expect. That range is just for a 6-month period. The screenshot below shows how this portfolio would have performed in some “stressful” market environments. In 2008, for example, a portfolio with these types of risk characteristics would have declined approximately 23.4%. You can also see in the screenshot below that the S&P 500 (risk score of 78) would have been down 38% during the same timeframe (2008).

Should you play it safer?

There are not a lot of great alternatives to stocks and real estate this year.  Bonds have historically been considered the “safe” assets.  However, bond values move inversely to interest rates.  As a result, Barclay’s aggregate bond index was down 10% through the first 4 months of 2022 and further interest rate increases will continue to negatively affect bonds.  The last time bonds and stocks had negative returns in the same year was 1994 and before that was 1976.

You could leave your money in the bank, but interest rates are still close to zero and inflation is running at 7-8%, which means that you would be losing purchasing power.  The current investment landscape reminds me of a famous quote from General Douglas MacArthur who said, “There is no safety on this earth, only opportunity.”

Where does the market go from here?

I think a 50% chance exists that the market will begin to rally before year end and another 50% chance that the decline continues. You cannot time these things. However, the good news is several positions within most well-diversified portfolios are not volatile. In other words, if your portfolio declines 10%, there are probably some holdings that are down 20% or more and others that may not be down at all. These stable holdings within a portfolio are important because they can buy you time and the ability to stay on course. You (or we) can sell these non-volatile holdings as needed to fund withdrawals, giving the more volatile stuff time to recover.

I know that seeing account values vary by several thousand dollars in a day can be scary, especially if you are already retired or nearing retirement. However, the worst thing you can do is make emotional financial decisions that are not based on any type of plan or research. So, my advice is make sure your financial plan is current and stick to it. My other piece of advice is to stop watching the market and focus instead on enjoying your friends, family, travel, and hobbies. Leave the worrying to us. 🙂

Have a great week and call or email any time with questions.