This is no stock market for the timid or the itchy, trigger-fingered investor. Volatility is the new normal and we should learn to live with it. In 2018 we have already experienced 14 days with selloffs of 1% or more. Compare that to the sleepy days of 2017 when we only had four days when markets fell 1% or more. It feels like we should be down more than the 4% in the S&P 500, given the painful sell-offs that have battered us like body blows in the old 'Punch Out' video game from the 1980s, but we've had several recovery rallies to keep us from sliding into the bear's den. But volatility is a tricky animal, and it behaves differently when markets are under pressure. That's happening now.
As Ben Carlson, co-host of the Animal Spirits podcast and the blogger behind A Wealth of Common Sense, writes, "Volatility in the stock market can be counterintuitive. Bull markets aren’t typically filled with huge up days. Instead, rising markets tend to experience a slow and methodical rise higher. The best up days are usually seen in the same market environments as the worst down days, which occur during down-trending, volatile markets." In 2017, markets just kept grinding higher, irrespective of political chaos, frothy valuations, and ageist comments about how very old this Bull Market seemed. In 2018, it feels like we are looking for reasons to sell which only get worse when we see big institutional investors unloading stocks at warp speed. Markets sell-off so fast that wire services and real-time market trackers can barely keep up.
These sell-offs mess with our heads and light up our primitive fears. As Carlson notes..."This loss aversion is a big reason why investors tend to make more emotionally-charged decisions when stocks are falling, which causes both panic selling and panic buying during a market downtrend." He cites Nobel laureate Richard Thaler's research with Cass Susstein on investor myopia. Sell-offs and downturns light up our reptile brain, which makes us check our portfolios over and over again. The more losses we see, the more we experience loss aversion, which turns into a vicious cycle and prompts many of us to sell. We can't stomach the losses even though we knew they were part of the game so we try to sell, hoping we timed the market correctly. We should know by not that timing the market is close to impossible. You may get lucky once, but more often than not you will miss the bottom and have no idea when to get back in.
We noted a few weeks ago after the first correction of 2018, that 401k redemptions were three times higher than normal. That's exactly what you should not be doing in times like this. If you feel like your portfolio is too risky or equity heavy, its OK to make an adjustment here or there to mollify your fears. But trading in and out of a volatile market is a recipe for disaster, especially during times like these. Ignore the part of your brain that wants to flee and sell into the flames. Instead, re-balance periodically and make sure you are comfortable with your risk management and position sizing. In other words, don't be a reptile!
Caleb Silver - Editor in Chief