Putting market declines in perspective

Putting market declines in perspective

On March 10, 2020, in the midst of a market correction, and with the next COVID-19 shutdown approaching, I wrote about the differences between pullbacks, corrections, and bear markets*, and how investors react to each event.

Little did I know at the time that just two weeks later, the market was down after dropping more than 33%.

The market activity that occurred in 2020 was unique, given the speed with which it all happened. From all-time highs in February 2020, we’ve gone through the phases of a pullback, a correction, and a bear market in just over a month. The market has fallen more than 30% in just 22 trading days, the fastest time frame in which it has ever done so. However, by early August 2020, the market had recovered all those losses and ended the year 12.5% โ€‹โ€‹higher than its previous all-time high on February 19, 2020.

Now, in mid-September 2022, the market is firmly entrenched in a more traditional pullback/correction, with the S&P 500 down more than 18% year-to-date from its January 3 high. While the timeline for this drop so far has been more conventional, spanning more than eight months at this point, the same principles and investor reactions I wrote about two years ago still apply.

The highly volatile daily market activities capture business news and social media attention. Economic, political and geopolitical risks are rampant at the moment, as news cycles seem to be dominated by an alternating cycle of negative headlines. Whether it’s hyperinflation and a slowdown in economic growth, the upcoming primaries and midterms, or the ongoing war between Russia and Ukraine, there is almost endless bad news. All of that, combined with investors seeing steady declines in their investment for the first time in nearly a decade, has driven consumer confidence about the economy and markets to its lowest level in 40 years.

*According to asset and investment management firm Guggenheim Investments, the S&P 500 has seen 86 declines, 28 corrections, and 12 bear markets since 1945.

However, there are still reasons to be optimistic about the markets. In a March 2020 article, I noted that during bear markets, trading activity tends to be lower, and so do dividend yields. This time, the daily volume of the S&P 500 index did not receive a noticeable success. In fact, it has already been trading above average volume on certain days. Likewise, the S&P 500’s dividend yield is actually the highest in nearly two years since companies around the world cut their dividends due to the pandemic.

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Another reason for optimism regarding the S&P 500 is that valuations have finally fallen from COVID highs to near historical averages. As of September 9, according to FactSet, the 12-month P/E ratio for the S&P 500 is flat around 16.8x earnings. The disconnect that can be seen and felt as stock markets swooped in to warm up, despite the country and much of the world being shut down due to the pandemic, is finally starting.

While some economic data may point to a recession, there are other indications that the economy is not yet in a cyclical recession. Likewise, while the recent correction in the stock markets has spooked investors and wrecked sentiment, there are reasons to look ahead.

Not all bear markets are alike, and as the popular saying goes, “It’s always darker before dawn.” In fact, bulls tend to follow bears. It is important to stay focused on the long-term prospects of investing and not get caught up in the daily fluctuations that can lead to poor reaction decisions.

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