By Jon L. Ten Haagen, CFP ®
It is inevitable: If you invest in the markets for any period of time, you will experience one, a volatile market.
Volatility is a statistical measure of the tendency of a market or security to rise or fall sharply within a short period of time. It is typically measured by the standard deviation of the return of an investment. Standard deviation is a statistical concept that denotes the amount of variation or deviation that might be expected.
Example: It would be possible to see the S&P500 have a standard deviation of about 15 percent, while a more stable investment, such as a Certificate of Deposit, will typically have a standard deviation of zero because the return never varies.
Volatile markets are usually characterized by wide price fluctuations and heavy trading. They often result from an imbalance in orders in one direction (all buys and not sells, etc.).
Others blame volatility on day traders, short sellers and institutional investors.
One measure of relative volatility is a particular stock’s BETA. If a stock has a BETA of one, then it is in line with the markets. If the BETA is lower than one, the stock moves in price less than the market (as a percentage). If the BETA is above one, the stock is considered volatile.
We experience BULL and BEAR markets on a regular basis. Not all Bear Markets are created equal. They vary in intensity, duration and strength. But one thing does always occur after a Bull Market (to date so far): The markets revert to the mean, back to the ‘normal ebb and flow.’
A market correction is defined as a 15-percent or greater decline in the market (be it the DOW or S&P500, etc.). With volatility near historic lows and the last market pullback a distant memory (we are in the second longest bull market today). Investors may not be prepared or thinking of a downturn today, however, declines are a normal part of the ebb and flow of the markets. Investors who have stayed the course and stayed in the markets during downturns over the long run have typically been rewarded.
What is the common denominator of the years 1929, 1939, 1949, 1959, 1969, 1979, 1989, 1999, 2009: There was a 20-percent or more pull back in the market; there were a few more in other years. Bear markets (pullbacks) are a normal function of the markets and they are healthy in the long run. It gives investors time to pause and take time to reflect on their investments and to adjust portfolios if needed.
We have had a steady up trending market for almost a decade, and in January, we had a volatile pause. Time to reflect and redefine our objectives. Since 1949, there have been nine periods of 20-percent or greater declines in the S&P500. The average declines of 33 percent were definitely painful, missing out on the 268-percent return could be worse. Timing the markets is a fool’s job when you take into account the duration of these bear markets (14 months, on average). Investors should be in touch with their advisors on a regular basis to make sure their investment strategy is still properly balanced. If in 2009 you had a balanced portfolio of 60 percent equity and 40 percent fixed income, and you did no adjustments since then, you are most likely way out of balance. Equities have basically gone up and fixed income faltered a bit. You should review and make sure your positions are in the percentages you are comfortable with on a regular basis.
As usual we are here to answer your questions and help you toward your various financial goals. Please reach out to us at firstname.lastname@example.org or 631-425-1966. We have added two new partners who are also CFPs and are enrolled agents to help answer your questions about taxes. We will be back in two weeks.