The silver lining of this year's market weakness

It’s been a challenging year for share investors. At one point in June, the S&P 500 in the US was down more than 20 per cent from its January peak, while the NZX 50 wasn’t far behind.

We saw some big moves in US interest rates as a result. The two-year Treasury yield hit 3.78 per cent after the release, the highest since 2007.

Life gets more difficult for higher-risk assets when investors can collect almost four per cent for virtually no risk.

Those who entered the fray during 2021 will have had a particularly difficult experience. Some might be tempted to get out completely, cutting their losses in case markets fall further. If you’re of a trading mindset, maybe that could be the sensible approach.

There’s every chance things get worse before they get better, especially if inflation remains stubbornly high and the response from central banks (which is higher interest rates) leads to an economic downturn, or even recession.

However, if your foray into share investing is part of a longer-term strategy, based on building your wealth and generating a sustainable, growing, income stream for The silver lining of this year’s market weakness retirement, think twice.

If you fall into this latter camp, you’ll presumably want to re-enter the market when all this blows over, which means you’ll not only need to judge whether now is the right time to exit, but also when you should get back in.

There have been 12 previous occasions since 1960 where the S&P 500 has fallen more than 20 per cent or the US economy fell into recession, or both.

On average, US shares fell 31.5 per cent (from top to bottom) during these periods, and the average duration of the downturn was 12 months.

Each of those times, when things turned, they turned quickly.

In the first month after the bottom, the average return was 13.8 per cent. After the first three months, it was 28.7 per cent and after the first 12 months it was 41.9 per cent.

Unless you’re extremely good, you won’t recognise a market bottom until it’s behind you and by the time you jump back in, you’ll have missed a fair whack of that rebound.

Sharemarkets look forward. They take all the information at hand, form a collective judgement about the future, then factor that into today’s prices.

At the moment, prices reflect the many challenges on the horizon, even though we haven’t seen all of those show up just yet.

On the way back up, the bottom will come long before we see firm evidence of a clear path ahead.

Cast your mind back to March 2020 when COVID-19 first emerged. The NZX 50 index fell 33.9 per cent and it bottomed out on the 23rd of March.

The borders had only just closed at that point, and two days later on the 25th we went into a level four lockdown.

In the real world, things were just starting to get ugly. However, the sharemarket had sniffed that out early, and it had already turned the corner.

By the time the Prime Minister was outlining plans for our move to level two seven weeks later, the NZX 50 was already more than 25 per cent up from the bottom.

It was similar during the GFC. The S&P 500 bottomed in March 2009, even though the US economy was still in recession at that point.

The recession ended in June of that year, and by then the S&P 500 had rebounded more than 35 per cent from its lows.

It’s impossible to pinpoint how much more volatility we’ll see in the months ahead, or where the bottom is. However, things will eventually turn around, as they always have, and nobody rings a bell to tell you when.

Most of us are investing in the hope of meeting our long-term goals, which are usually some five, ten or twenty years into the future. With that in mind, it makes little sense to react to weekly, monthly or even yearly volatility.

Investing isn’t about trying to pick the moods of the market; it’s about building and managing a well constructed portfolio in line with your goals and objectives.

Market declines and recessions will come and go, but great businesses will remain resilient, keep paying dividends and continue finding opportunities to grow.

For those with a long-term horizon, investing in companies at depressed prices should be a far more exciting prospect than buying them near all time highs.

That certainly doesn’t mean jumping in boots and all.

A more sensible strategy might be to put your money to work bit by bit.

If you’ve got a lump sum, split it into pieces and stagger your way into the market over time.

Sometimes called instalment investing, this will strike a balance between taking control of your finances right away, but in a measured way.

Ups and downs have always been part of share investing, and they always will be. A benefit of the “down” periods is that we can use them to make sure we’re positioned for the inevitable “ups”.

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