-6.0%. -2.5%. 8.4%.
These are the S&P 500’s monthly total returns in August, September and October, respectively.[i] Wild swings—volatility is back! To many, it feels jarring after three-plus years of relative calm, but volatility actually brings big benefits. As our boss, Fisher Investments’ founder and CEO Ken Fisher wrote in Forbes in September: “Most folks think when stocks are up, it’s good, and when they’re down, it’s ‘volatile’—but you don’t get up-a-lot markets, big moves fast, without abundant gyrations.” Investors who can learn to love volatility—sticking through the quick drops to get the big bounces afterward—are likely best equipped to capture stocks’ long-term returns.
Market-like returns aren’t a free ride—there is no reward without risk. Long-term growth investors make a tradeoff: accepting short-term declines in exchange for longer-term returns that have historically outpaced all other similarly liquid asset classes. Corrections (sharp, sentiment-driven drops of around -10% or worse) and pullbacks are the price tag for stocks’ high longer-term returns.
They’re also the market’s way of shaking out the weak, one of its favorite pastimes. Unless you have nerves of steel or are secretly a robot, enduring corrections is scary and emotionally difficult. Human nature makes us feel losses far more than we enjoy gains, and those feelings often lead investors to trade at exactly the wrong time: right after stocks have sold off, and right before the rebound. Folks forget how quickly stocks move—in both directions—and just want the pain to stop. It is a classic fight or flight moment.
Choosing flight can be devastating. Short-term declines become actual, realized losses only if you sell or lock them in. If you can hang on and stay invested, the subsequent rebound erases that temporary decline, keeping you on track to reach your long-term goals. If you sell after a pullback, you lock in the loss and miss the chance to scrub it away.
Stocks’ most recent correction is a perfect example. While it started more slowly than most corrections, with world stocks declining gradually from their May 21 peak through early August, what followed was a real hair-raiser. Most of the declines were concentrated in two calendar weeks, with the MSCI World Index falling -10.2% from August 10 through August 25.[ii] After a bit of a false start in early September, stocks plunged again late that month, losing -6.5% from September 16 through September 29, the most recent low.[iii] But the very next day, we got the good kind of volatility! The MSCI World rose the next nine trading days, September 30 through October 12, gaining eight percent and halving the correction’s decline.[iv] Gains continued through October’s end, and as we type, November is off to a rollicking start.
Exhibit 1: Anatomy of a Correction
Source: FactSet, as of 11/3/2015. MSCI World Index returns with net dividends, 12/31/2014 – 10/30/2015.
More volatility wouldn’t be unprecedented and enduring sharp drops isn’t fun, but it’s necessary in order to capture the good kind of volatility. And you can’t reap stocks’ long-term returns if you don’t capture those strong bursts that follow corrections. Stocks don’t move in straight lines. Returns come in clumps, and the best clumps often come on the heels of the worst clumps. To get the S&P 500’s 28.6% return in 1998, investors had to swallow a –19.2% correction from July 17 through August 31.[v] To get 2010’s solid 15.1% S&P 500 return, investors had to brace through two sharp pullbacks—an -8.0% drop from January 19 through February 8 (world stocks actually hit correction territory then) and another -15.6% drop from April 23 through July 2.[vi] Both were great years, but both had big volatility.
So take a page from Ken Fisher’s book—or Doctor Strangelove, if you prefer—and learn how to stop worrying and love the volatility. Yes, there are times when being out of stocks makes sense, namely if you have strong evidence a bear market (longer, deeper, fundamentally driven decline of around -20% or worse) is forming. But don’t waste your energy or sanity trying to navigate corrections, which are unpredictable and often over as soon as you realize you’re in one. Doing so might feel more comfortable in the heat of the moment, but more often than not, it does more harm than good. Short-term market timing is a flawed tactic if your needs require longer-term equity-like returns.
By Elisabeth Dellinger, Fisher Investments
This constitutes the views, opinions and commentary of the author as of November 2015 and should not be regarded as personal investment advice. No assurances are made the author will continue to hold these views, which may change at any time without notice. No assurances are made regarding the accuracy of any forecast made. Past performance is no guarantee of future results. Investing in stock markets involves the risk of loss.
[i] FactSet, as of 11/4/2015.
[ii] FactSet, as of 11/3/2015. MSCI World Index returns with net dividends, 8/10/2015 – 8/25/2015.
[iii] Ibid, 9/16/2015 – 9/29/2015.
[iv] Ibid, 9/29/2015 – 10/12/2015.
[v] FactSet, as of 11/4/2015. S&P 500 Total Return Index; 12/31/1997 – 12/31/1998 and 7/17/1998 – 8/31/1998.
[vi] FactSet, as of 11/4/2015. S&P 500 Total Return Index; 12/31/2009 – 12/31/2010, 1/19/2010 – 2/8/2010 and 4/23/2010 – 7/2/2010.
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